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MATERIALS  FOR  THE  STUDY 
OF  ECONOMICS 


PRINCIPLES  OF  MONEY  AND  BANKING 


THE  UNIVERSITY  OF  CHICAGO  PRESS 
CHICAGO.  ILLINOIS 


Bgents 
THE  BAKER  &  TAYLOR  COMPANY 

NEW   YORK 

THE  CUNNINGHAM.  CURTISS  &  WELCH  COMPANY 

LOS   ANGELES 

THE  CAMBRIDGE  UNIVERSITY  PRESS 

LONDON   AND    EDINBURGH 

THE  MARUZEN-KABUSHIKI-KAISHA 

TOKYO.  OSAKA,  KYOTO 

THE  MISSION  BOOK  COMPANY 

SHANGHAI 

KARL  W.  HIERSEMANN 

LEIPZIG 


PRINCIPLES  OF  MONEY 
AND  BANKING 

A  SERIES  OF  SELECTED  MATERIALS,  WITH 
EXPLANATORY  INTRODUCTIONS 


BY 


HAROLD  G.  MOULTON 


THE  UNIVERSITY  OF  CHICAGO  PRESS 
CHICAGO,  ILLINOIS 


Copyright  1916  By 
The  University  of  Chicago 


All  Rights  Reserved 


Published  June  igi6 


Composed  and  Printed  By 

The  University  of  Chicago  Press 

Chicago,  Illinois,  U.S.A. 


PREFACE 

This  volume  is  the  result  of  four  years  of  experimentation  in  the 
teaching  of  an  introductory  course  in  Money  and  Banking.  It  is  not 
a  book  of  collateral  readings  or  materials  in  the  ordinary  sense,  but 
is  designed  to  serve  the  purpose  of  a  text  and  at  the  same  time  to  give 
the  student  a  breadth  of  view,  a  contact  with  reality,  a  stimulus  to 
independent  thinking,  and  a  training  in  judgment  and  discrimination 
which  are  not  afforded  by  the  formal  textbook.  In  a  word,  an  attempt 
has  been  made  to  combine  in  one  volume  the  virtues  of  both  the  text 
and  collateral  readings,  and  as  far  as  possible  to  eliminate  their  defects. 
To  this  end  there  has  been  selected  a  large  number  of  comparatively 
short  arguments,  ex-pressions  of  opinion,  and  points  of  view,  supple- 
mented by  source  materials,  charts,  tables,  etc.,  which,  while  covering 
the  principles  of  money  and  banking  as  adequately  as  the  ordinary 
text,  avoid  the  dogmatic  tendencies  inherent  in  the  textbook  method 
and  retain  the  suggestiveness  of  collateral  readings  without  their 
usual  bulkiness  and  admixture  of  irrelevant  material.  These  numer- 
ous selections  have,  it  is  believed,  been  welded  into  an  organic  whole, 
and  unity  of  treatment  has  been  secured,  not  only  by  careful  arrange- 
ment, but  by  means  of  general  introductory  statements  prefaced  to 
each  chapter  or  division.  As  a  further  aid  to  the  orderly  unfolding 
and  development  of  the  subject  the  volume  is  accompanied  by  a  series 
of  questions  and  problems  based  upon  the  readings  and  published 
separately  under  the  title:  "Exercises  and  Questions  in  Money  and 
Banking." 

During  the  four  years  of  experimentation  with  the  subject,  a 
large  proportion  of  the  selections  in  this  volume  have,  in  mimeo- 
graphed form,  been  repeatedly  tested  by  classroom  use.  The 
exercises  and  questions  have  been  developed  with  the  readings  and 
also  tried  out  in  class,  with  the  result  that  after  each  trial  there  has 
been  a  very  considerable  revision,  not  only  of  the  questions,  but  of 
the  arrangement  and  organization  of  the  readings  as  well.  Moreover, 
these  revisions  have  usually  been  made  immediately  following  the 
class  sessions  from  day  to  day,  while  the  improvements  suggested  by 
the  classroom  discussions  were  fresh  in  mind. 


VIU  PREFACE 

The  volume  was  originally  intended  to  be  used  in  a  collateral 
capacity  with  a  formal  textbook;  but  as  the  number  and  variety  of 
selections  increased,  the  need  for  the  text  appeared  to  grow  less 
and  less,  until  in  my  own  teaching  I  now  prefer  to  use  the  volume 
independently  of  a  textbook.  Much  of  the  material  in  Part  11  has 
also  been  used  in  mimeographed  form  by  an  instructor  in  another 
institution  with  a  similar  result;  in  the  first  semester  it  was  used 
with  a  text,  while  in  the  second  semester  the  text  was  discarded. 
This  experience  has  led  me  to  believe  that  the  book  may  find  its 
greatest  use  in  an  independent  rather  than  a  collateral  capacity. 

The  main  purpose  of  a  preface,  I  take  it,  is  to  reveal  the  point  of 
view  of  an  author,  or  perhaps,  more  accurately  speaking,  to  disclose 
his  hobby.  My  own  "view"  just  at  present  is  that  if  it  comes  to  a 
choice  between  a  volume  of  this  sort  and  a  formal  textbook  as  the 
basis  of  a  course  in  Money  and  Banking  the  advantage  lies  with  the 
book  of  selected  materials.  If  the  reader  will  bear  with  me  I  should 
like  to  present  the  reasons  for  my  faith. 

If  the  purpose  of  education  is  merely  to  supply  students  with 
predigested  information,  then  the  text  is  eminently  satisfactory.  A 
student  may,  however,  commit  to  memory  the  principles  laid  down 
in  the  text,  recite  them  in  class,  and  write  them  down  in  examinations, 
and  still  be  not  very  much  the  wiser.  For  the  usual  text  does  not  in 
itself  provoke  thought  and  discussion  to  any  great  extent  or  lead 
to  careful  analysis  on  the  part  of  the  student:  these  desiderata  come 
only  through  a  challenge  to  the  intelligence;  and  this  challenge  is 
best  made  by  means  of  the  presentation,  not  only  of  conclusions, 
but  of  the  materials  necessary  to  the  formulation  of  conclusions. 
To  reach  a  full  understanding  of  the  principles  of  economics  it 
would  seem  to  be  necessary  that  the  student  should  evolve,  with 
the  guidance  and  aid  of  the  instructor,  his  own  conclusions  and 
principles. 

This  does  not  imply  an  inductive  method  in  the  sense  that  the 
beginning  student  is  to  digest  the  vast  data  and  raw  material  bearing 
on  a  subject  like  Money  and  Banking  and  reach  his  conclusions  after 
a  tedious  process  of  analysis  and  synthesis.  On  the  contrary,  the 
readings  in  this  volume  contain  rather  less  of  raw  material  and  rather 
more  of  conclusions  and  matured  opinions  of  authorities  in  the  field, 
together  with  the  conflicting  views  of  various  groups  or  classes  in 
society.  The  method  may  be  called  inductive  only  in  so  far  as  the 
student's  own  conclusions  are  made  to  result  from  an  analysis  and 


PREFACE  IX 

weighing  of  conflicting  views,  opinions,  and  arguments.  This  must,  of 
course,  be  coupled  with  much  deductive  reasoning,  and  it  is  doubtless 
best  to  refer  to  it  simply  as  the  discussion  method  without  raising 
the  time-honored  controversy  over  induction  and  deduction. 

The  presentation  of  varjdng  points  of  view  and  of  the  philosophies 
of  different  social  groups,  together  with  conflicting  opinions  and 
conclusions  of  experts  in  the  field.,  appears  to  me  indispensable  to  a 
genuine  appreciation  of  the  subject.  A  very  serious  problem  in  the 
complex  life  of  modern  times  lies  in  the  specialized  or  group  points 
of  view  that  prevail  with  reference  to  so  many  of  our  economic  ques- 
tions and  the  inability  to  rise  above  the  narrowing  influence  of  one's 
special  interest.  The  formal  textbook  seldom  has  a  place  for  the 
presentation  of  such  conflicting  points  of  view;  and  where  it  does, 
they  are  given  at  second  hand,  usually  in  condensed  summary-  form  and 
almost  wholly  divorced  from  any  manifestation  of  the  spirit  and  feelings 
of  the  groups  or  times  that  held  such  views.  For  example,  in  a  chapter 
on  the  silver  movement  in  the  United  States  the  text-writer  usually 
summarizes  the  causes  of  the  agitation,  shows  why  the  "Crime  of 
1873"  was  not  a  real  crime,  enumerates  the  main  provisions  of  the 
legislative  acts  passed  by  the  silver  people,  shows  the  results  of  such 
legislation  in  the  troublous  times  of  the  early  nineties,  and  concludes 
that  the  restoration  of  bimetallism  at  the  ratio  of  16  to  i  would  have 
been  unfortunate — a  dull,  uninteresting  account  of  a  movement 
that  roused  the  passions  of  millions  of  people  for  a  generation. 
It  is  impossible  to  give  the  college  student  of  today  who  viewed 
from  his  nursery  window  the  torchlight  processions  of  1896  any 
real  conception  of  the  nature  of  the  silver  movement  or  any  genuine 
appreciation  of  the  important  social  and  economic  lessons  it  taught 
without  reproducing  something  of  the  spirit  of  the  times,  without 
showing  by  means  of  their  own  burning  language  and  arguments  the 
motives,  impulses,  and  passions  that  influenced  the  men  of  that 
generation. 

Again,  the  assembling  of  material  from  a  large  number  of  authors 
gives  to  a  volume  a  richness  of  content  that  a  single  writer  cannot 
hope  to  furnish.  No  individual  author,  however  matured  in  training 
and  thought,  can  possibly  write  on  the  entire  field  of  a  subject  like 
Money  and  Banking  with  the  precision  or  authority  that  he  can  on 
particular  topics  to  which  he  has  given  years  of  special  study.  For  a 
book  of  readings,  however,  one  may  draw  on  the  writings  of  a  hundred 
students  of  the  question.    Often  a  comparatively  short  selection  will 


X  PREFACE 

contain  the  one  memorable  contribution  of  an  author  to  the  advance- 
ment of  the  science.  Incidentally,  the  collection  of  a  large  number  of 
readings  from  a  wide  range  of  writers  over  a  long  period  of  time  is  an 
excellent  introduction  of  the  student  to  the  literature  of  the  subject. 
It  may  lead  to  further  reading  and  study;  but  even  if  this  goal  is 
not  attained,  the  student  can  hardly  fail  to  realize  that  all  of  mone- 
tary wisdom  and  experience  is  not  contained  within  the  covers  of  a 
single  book. 

A  collection  of  carefully  edited  readings  and  materials  also  makes 
possible  the  presentation  of  a  much  larger  volume  of  data  by  virtue 
of  the  elimination  of  extraneous  and  repetitional  matter.  In  order 
to  supplement  a  text  most  teachers  assign  to  the  student  a  list 
of  collateral  readings  bearing  on  the  topic  in  hand  and  chosen 
with  the  idea  of  showing  the  student  what  writers  other  than  the 
author  of  the  text  have  to  say  on  the  subject,  and,  so  far  as  is  possible, 
presenting  to  him  various  points  of  view.  The  teacher  is  usually 
handicapped  in  this  because  in  the  ordinary  library  there  is  a  limited 
supply  of  material  of  the  documentary  and  pamphlet  variety,  while 
in  many  libraries  the  problem  of  a  sufficient  number  of  the  formal 
standard  treatises  is  a  pressing  one.  But  even  where  the  library 
material  is  adequate,  there  is  usually  a  great  and  needless  duplication 
of  effort  on  the  part  of  the  student.  It  may  probably  safely  be  said 
that  as  a  rule  something  like  one-half  of  such  readings  are  practically 
duplications,  and  that  another  25  per  cent  is  extraneous  matter,  so 
far  as  the  problem  in  hand  is  concerned.  Someone  has  remarked  in 
this  connection  that  the  system  is  really  based  on  the  labor  theory' 
of  value.  A  more  probable  explanation,  however,  is  that  it  is  the 
product  of  necessity,  being  used  only  for  want  of  something  better. 
In  any  event  there  appears  to  be  little  justification  for  such  dupli- 
cation in  view  of  the  wealth  of  valuable  material  that  cannot  be 
covered  under  the  most  favorable  conditions. 

It  is  recognized  that  various  objections  may  be  raised  in  this 
connection.  It  may  be  urged,  for  instance,  that  a  certain  amount  of 
repetitional  reading  is  of  value  to  the  student.  Now,  while  this  is 
doubtless  true  for  a  certain  amount,  it  hardly  holds  for  atiy  amount 
or  for  the  usual  amount.  A  frank  talk  with  almost  any  serious-minded 
student  brings  out  the  statement  that  the  student  is  prone  to 
acquire  the  habit  of  reading  one  assignment  and  merely  glancing 
at  or  wholly  passing  by  the  others,  with  the  comforting  reflection  that 
it  is  the  same  "  stuff  "  anyhow.    While  a  good  part,  indeed,  is  usually 


PREFACE  XI 

a  virtual  duplication,  there  are  generally  some  paragraphs  or  sec- 
tions which  present  new  material  of  genuine  importance.  These  the 
student  all  too  frequently  misses. 

Again,  it  may  be  argued  that  "too  carefully  condensed  and 
edited"  readings  result  in  the  student's  losing  a  valuable  training  in 
sifting  chaff  from  the  wheat.  The  analysis  of  a  complete  chapter 
or  article  either  for  the  purpose  of  evaluating  the  whole  or  for  picking 
out  and  making  use  of  only  such  portions  as  bear  on  the  topic  in  hand 
unquestionably  gives  a  training  that  is  of  much  importance.  It 
seems  to  me,  however,  that  the  necessary  training  along  this  line  may 
be  gained  without  following  this  method  exclusively,  or  even  pri- 
marily. A  considerable  number  of  collateral  readings  of  the  ty-pe 
under  consideration  should  certainly  be  used  with  a  book  of  care- 
fully edited  readings  and  materials  as  well  as  with  a  formal  text- 
book. Term  papers  or  special  reports  may,  of  course,  serve  a 
similar  purpose.  Where  the  method  is  followed  exclusively,  however, 
the  student  frequently  rebels  or  grows  careless,  wdth  the  result  that 
he  does  not  acquire  the  training  intended. 

The  most  serious  obstacle  to  the  independent  use  of  a  book  of 
materials  would  seem  to  lie  in  a  possible  lack  of  unity  in  the  volume. 
There  is  danger  that  the  student  may  not  see  the  relations  between 
different  chapters  and  divisions  of  the  subject  as  w^ell  as  when  they 
are  tied  together  by  the  thread  of  a  formal  treatise  by  a  single  author. 
In  the  present  volume  an  effort  has  been  made  to  overcome  this 
shortcoming  of  the  method  by  means  of  an  introductory^  statement  for 
each  chapter  which  attempts  to  give  a  setting  for  the  readings  to 
come — to  relate  them  to  what  has  gone  before  and  to  indicate  their 
trend  and  purpose.  It  is  probable,  however,  that  even  with  this  aid 
the  teacher  will  have  more  interpreting  to  do  than  with  a  formal 
text.  But  if  the  idea  underlying  the  method  is  sound,  he  will  find 
more  than  compensating  advantages. 

However,  in  all  this  pedagogical  theorizing  I  recognize  that  I  may 
well  be  in  error.  And  especially  do  I  appreciate  that  we  are  not  all 
of  the  same  pattern,  and  that  what  is  a  good  method  for  one  teacher 
may  prove  very  bad  for  another.  If,  therefore,  this  volume  does  not 
commend  itself  for  independent  use,  I  hope  there  may  be  some  who 
will  find  in  it  material  that  will  prove  useful  in  a  collateral  capacity. 

In  adapting  the  ^•arious  selections  to  the  needs  of  this  \olume 
I  have  endeavored  to  do  no  violence  to  the  views  of  the  various 
authors.     In    many  cases,  however,   there    have    been    substantial 


xii  PREFACE 

omissions  of  material  regarded  as  extraneous  so  far  as  the  purpose 
to  be  served  here  is  concerned,  while  in  numerous  others  but  a 
few  paragraphs  of  an  article  or  chapter  are  given,  the  purpose  being 
merely  to  express  a  point  of  view  or  to  present  certain  factual 
material.  I  must,  of  course,  disclaim  responsibility  for  the  views  and 
opinions  expressed  in  the  various  selections,  for  many  of  them  are 
presented  merely  for  pedagogical  purposes.  There  are  numerous 
contradictory  readings  and  many  others  that  contain  faulty  analysis, 
chosen  to  serve  merely  as  the  basis  for  classroom  discussion  out  of 
which  principles  may  be  developed.  The  unsigned  readings  are  of 
two  kinds:  those  taken  from  documents,  reports,  etc.,  the  references 
being  given  in  footnotes;  and  those  written  by  myself.  My  own 
contributions  have  been  written  because  of  inability  to  find  concise 
or  satisfactory  statements  by  others  on  topics  regarded  as  essential 
to  the  unity  or  completeness  of  the  treatise.  It  has  seemed  un- 
necessary to  prepare  a  voluminous  index  to  the  volume  in  view  of 
the  complete  table  of  contents. 

The  great  number  of  selections  makes  individual  acknowledgments 
out  of  the  question  here,  and  I  can  only  appreciatively  state  that, 
with  a  single  exception,  I  have  received  from  publishers  and  authors 
the  most  courteous  permission  to  use  the  materials  desired.  I  am 
under  heavy  obligation  to  my  former  colleague.  Professor  Walton  H. 
Hamilton,  of  Amherst  College,  for  many  suggestions  growing  out  of 
almost  daily  discussions  on  method  and  organization.  Professor 
James  D.  Magee,  of  the  University  of  Cincinnati,  has  given  a  number 
of  valuable  suggestions;  and  Professor  Walter  W.  Stewart,  of  the 
University  of  Missouri,  who  has  read  most  of  the  manuscript  in 
Part  II,  has  given  many  helpful  criticisms  on  this  portion  of  the  work. 
Finally,  I  am  deeply  indebted  to  the  spirit  of  co-operation  and  team 
play  in  the  department  with  which  I  am  associated,  the  numerous 
conferences  and  informal  discussions  on  the  many  problems  involved 
in  economic  instruction  having  been  of  the  very  greatest  assistance. 

H.  G.  M. 
University  of  Chicago 
April  I,  1916 


INTRODUCTION:  SCOPE  AND  ORGANIZATION 

Events  in  the  field  of  money  and  banking  in  recent  years  have 
resulted  in  a  substantial  shifting  of  interest  in  the  subject  on  the 
part  of  both  the  general  public  and  professional  economist.  The 
two  most  conspicuous  occurrences  are  of  course  the  final  disappear- 
ance of  the  bimetallic  controversy  two  decades  ago  and  the  recent 
thoroughgoing  revision  of  the  national  banking  system.  But  in  addi- 
tion to  these  important  changes,  many  new  subjects  have  pressed 
forward  for  attention,  among  which  may  be  mentioned  the  devel- 
opment of  agricultural  credit  facilities  and  of  the  numerous  t\pes 
of  co-operative  loan  associations  and  the  enormous  growth  of  invest- 
ment banking.  These  important  developments  have  seemed  to  me 
to  necessitate  a  considerable  reorganization  in  the  subject-matter  of 
a  general  course  in  the  principles  of  Money  and  Banking,  as  well  as 
numerous  changes  in  the  relative  emphasis  to  be  placed  on  the  various 
aspects  of  the  subject. 

Writers  of  the  school  of  Dunbar  and  Walker  and  their  followers 
were  naturally  primarily  concerned  with  the  financial  problems  that 
were  uppermost  in  their  time.  Accordingly,  on  the  money  side  they 
stressed  the  bimetallic  and  government  paper-money  controversies, 
and  on  the  banking  side  the  operation  and  regulation  of  "commercial" 
banking  as  exemplified  under  the  national  banking  system.  These 
questions  were  all  approached  from  the  standpoint  of  an  active  present 
interest  and  were  consequently  treated  in  a  more  or  less  controversial 
manner;  that  is  to  say,  it  seemed  of  paramount  importance  at  the 
time  to  promote  sound  thinking  to  the  end  that  "sound  money" 
might  be  secured.  These  monetary-  controversies  of  a  former  genera- 
tion are,  however,  not  relevant  to  present-day  practical  interests; 
they  have  been  superseded  by  new  issues.  In  the  present  volume, 
therefore,  the  readings  on  money  have  been  developed  and  arranged 
so  as  to  place  these  controversies  in  a  historical  setting  in*  their  rela- 
tionship to  the  whole  development  of  monetar>^  science.  While  in 
the  banking  field  most  of  the  problems  of  an  earlier  generation  remain 
for  present-day  discussion,  tlie  important  developments  that  have 
lately  occurred  also  necessitate,  as  already  indicated,  substantial 
modifications  in  the  methods  of  analvsis. 


xiv  INTRODUCTION 

But  irrespective  of  these  changes,  it  has  long  seemed  to  me  that 
the  field  of  Money  and  Banking  has  been  unduly  narrowed  by  most 
writers  on  the  subject.  The  well-known  functions  of  money  as  a 
common  denominator  of  value,  medium  of  exchange,  etc.,  are  not  the 
only,  nor,  from  some  points  of  view,  the  most  important,  functions  of 
money.  The  usual  "scientific"  analysis  of  money  fails  to  indicate  the 
enormous  role  that  it  plays  in  the  everyday  world  of  afi'airs,  and 
furnishes  a  wholly  inadequate  basis  for  an  understanding  of  the  mone- 
tary controversies  of  history.  Similarly,  the  usual  text  on  banking 
confines  the  discussion  to  such  banks  as  create  media  of  exchange  in 
the  form  of  notes  and  checks.  The  present  volume  attempts  to  treat 
both  money  and  banking  from  a  much  broader  standpoint  and  to 
bring  the  general  subject  into  more  vital  relationship  with  actual 
business  affairs. 

Part  I  is  divided  into  eight  chapters.  It  begins  with  the  pecuniary 
organization  of  society,  covers  the  origin  of  money  and  the  evolution  of 
the  precious  metals,  and  the  history  of  paper  money  and  bimetallism 
with  particular  reference  to  American  experience,  and  ends  with  a 
descriptive  analysis  of  the  present  system  in  the  United  States.  It 
is  in  connection  with  chap,  i,  "The  Pecuniary  Organization  of  Society," 
that  the  chief  departure  is  made  from  the  customary  treatment  of 
money.  This  chapter  is  divided  into  three  sections,  as  follows: 
(A)  "The  Nature  and  Functions  of  Money";  (B)  "Money,  Capital, 
and  Wealth,"  and  (C)  "The  Role  of  Money  in  Industrial  Society." 
The  first  of  these  is  typical  and  treats  of  the  classic  economic  functions 
performed  by  money  in  industrial  society.  The  second  portrays  the 
confusion  that  has  always  existed  in  the  popular  mind  with  reference 
to  money  and  capital  and  wealth,  while  the  third  is  designed  to  show 
the  relation  of  the  price  system  to  the  organization  of  industrial  society 
in  general  and  the  psychological  effects  of  this  pecuniary  organization 
on  the  daily  activities  of  man.  The  general  purpose  of  this  first  chap- 
ter taken  as  a  whole  is  to  pave  the  way  for  an  appreciation  of  the 
monetary  history  which  follows. 

There  is  an  economic  side  to  all  the  monetary  controversies 
through  which  we  have  passed,  but  there  is  also  another  side — one 
which  from  a  practical  standpoint  has  been  of  much  greater  impor- 
tance. Debasements  of  the  coinage,  the  demand  for  the  retention  of 
bimetallism,  and  the  numerous  paper-money  agitations  of  history  have 
all  been  vitally  connected  with  the  prevalent  desire  for  more  money, 
in  the  belief  that  more  money  means  more  wealth.     Without  this 


INTRODUCTION  xv 

popular  confusion  on  the  subject  of  money  and  wealth,  paper  money 
and  bimetallism  would  never  have  invaded  the  field  of  politics. 
While  we  might  have  had  issues  of  paper  money  as  a  means  of  war 
finance,  such  issues  would  probably  have  been  promptly  retired,  and, 
similarly,  we  should  doubtless  have  abolished  bimetallism  at  an 
earlier  date  in  the  absence  of  any  popular  concern  over  the  quantity 
of  money.'  Under  such  circumstances,  however,  discussion  of  these 
subjects  would  have  been  primarily  academic.  Most  text  writers 
have  in  fact  virtually  assumed  by  their  method  of  treatment  that 
these  controversies  were  mainly  academic  affairs.  They  are  analyzed 
from  the  "scientific"  point  of  view  and  the  workings  of  economic 
laws  are  satisfactorily  disclosed,  but  the  tremendous  role  that  money 
has  played  in  society  is  not  usually  revealed.  Viewed  from  a  broader 
outlook,  the  history  of  money  becomes  one  of  the  most  interesting  and 
human  phases  of  social  and  economic  progress. 

A  word  should  be  said  with  reference  to  the  treatment  of  paper 
money.  It  has  been  customary  to  discuss  the  histor>'  and  principles 
of  regulation  of  paper  money  without  differentiating  between  govern- 
ment and  bank  paper.  For  instance,  Jevons  gives  an  indiscriminate 
list  of  the  methods  that  have  been  employed  in  the  regulation  of  paper 
money,  some  of  them  relating  merely  to  government  paper  and  others 
to  bank  paper.  Any  attempt  to  discuss  the  principles  of  bank  paper 
money,  however,  appears  to  me  futile  until  the  student  has  studied 
the  principles  of  banking.  While,  historically  speaking,  many  of  the 
government  schemes  involved  the  use  of  banks  as  agents,  and  while 
the  motive  for  an  issue  by  banks  was  often  not  different  from  that  by 
a  government  direct,  nevertheless  the  principles  governing  the  regu- 
lation of  issues  by  banks  are  very  different  from  those  applying  to 
government  issues.  In  this  volume,  therefore,  bank  paper  money  is 
not  taken  up  until  after  the  principles  of  banking  have  been  discussed. 

Treatises  on  banking  are  usually  devoted  solely  and  as  a  matter 
of  course  to  what  is  commonly  called  ''commercial "  banking.  Indeed, 
banking  and  "commercial "  banking  have  been  very  generally  regarded 
as  synonymous  terms.  Bagehot  remarks,  for  instance,  that  the 
Rothschilds  are  great  capitalists  but  not  bankers,  while  Dunbar  in 

'  True,  the  public  has  frequently  been  concerned  over  falling  or  rising  price- 
levels.  Creditors  have  wished  falling  prices,  or  at  least  opposed  a  depreciation 
of  the  standard,  while  debtors  have  frequently  desired  a  cheaper  standard  of 
deferred  payments.  Kut  this  question  of  changing  price-levels  has  been  very 
closely  associated  in  the  popular  mind  with  the  volume  of  tlie  currency. 


XVI  INTRODUCTION 

his  little  classic  makes  a  similar  distinction  when  he  says:  "In  order 
to  be  a  bank  at  the  present  day,  an  establishment  must  carry  on  the 
purchase  of  rights  to  demand  money  in  the  future,  or  securities,  and 
it  must  also  use  in  some  form  or  other  its  own  engagements  for  the 
payment  of  money  upon  demand.^'  This  conception  of  banking  also 
finds  support  in  the  definition  of  a  bank  given  in  the  internal-revenue 
act  of  1866.  According  to  this  inteq3retation  savings  institutions 
holding  time  deposits  are  not  engaged  in  banking;  nor  are  the  great 
investment  houses  which  annually  transfer  from  investors  to  borrowers 
funds  amounting  to  many  hundreds  of  millions  of  dollars  to  be 
regarded  as  banks.  It  is  obvious,  however,  that  the  business  world 
holds  no  such  narrow  conception  of  the  banking  business.  The 
so-called  "commercial"  bank  with  its  demand  obligations  is  merely 
one  type  of  banking  institution;  and  to  exclude  all  other  kinds  of 
financial  operations  is  to  narrow  the  field  to  an  extent  that  gives  but 
a  one-sided  view  of  the  problems  of  banking  as  a  whole. 

The  study  of  banking  has  usually  been  approached  by  way  of  the 
discussion  of  money  as  a  medium  of  exchange;  hence  the  customary 
treatment  of  money  and  banking  together.  It  is  this  method  of 
approach  to  the  subject  that  is  doubtless  responsible  for  the  attempt 
to  confine  banking  within  the  narrow  limits  indicated  above,  for 
it  is  only  the  banks  which  issue  notes  and  give  demand  deposits 
that  create  media  of  exchange.  While  the  "economic"  function 
of  banks  in  furnishing  society  with  media  of  exchange  is  of  funda- 
mental importance  and  should  not  be  minimized  or  overlooked,  it  is 
at  the  same  time  quite  as  important  to  consider  the  "business"  func- 
tion of  banks.  From  the  point  of  view  of  the  business  world  the  chief 
purpose  of  banks  is  to  make  loans  to  borrowers.  The  business  man 
regards  his  bank  as  a  place  to  which  he  may  go  for  assistance  when  in 
need — it  is  a  sort  of  partner  in  his  business  venture.  The  fact  that 
in  giving  him  a  loan  the  bank  is  creating  an  inexpensive  medium  of 
exchange  for  the  transfer  of  commodities  is  from  his  standpoint  of 
no  moment.  Similarly,  the  banker  himself  views  his  bank  merely 
as  a  profit-making  institution,  the  underlying  economic  function 
being  but  an  after-reflection  at  best.  Now,  since  it  is  the  business 
men  and  bankers  who  use,  manage,  and  direct  institutions,  the  prob- 
lems of  banking  cannot  be  fully  apprehended  unless  we  understand  the 
business  point  of  view.  Since  the  business  view  of  banking,  with  all 
its  psychological  aspects,  is  at  bottom  responsible  for  the  whole 
problem  of  credit  organization  and  control,  it  is  important  that  the 


INTRODUCTION  xvii 

analysis  of  banking  should  primarily  proceed  from  the  point  of  view 
of  the  actual  business  world.  The  underlying  "economic"  aspects 
are  not  overlooked  or  minimized  by  this  method  of  approach ;  on  the 
contrary,  the  reliability  of  notes  and  checks  as  media  of  exchange  is 
only  the  better  understood  by  virtue  of  such  an  analysis. 

Again,  in  the  customary  treatment  of  banking,  legal  distinctions 
have  frequently  been  confused  with  economic  ones.  A  bank  which 
creates  demand  obligations  in  exchange  for  future  rights  is  said  to  be 
engaged  in  commercial  operations;  hence  the  designation  of  our 
national  and  state  banks  as  "commercial  banks."  Now  to  classify 
a  transaction  as  "commercial"  should  indicate,  it  would  seem,  the 
economic  nature  of  the  operation;  and  this,  indeed,  is  the  intent  when 
one  says,  for  instance,  that  national  banks  are  commercial  banks. 
They  are  supposed  to  serve  the  needs  of  commerce,  that  is,  to  facili- 
tate the  production  and  marketing  of  consumers'  goods,  and  are  not 
designed  to  promote  investment  or  the  creation  of  capital  goods. 
Commercial  transactions  are  in  their  very  nature  short-time  opera- 
tions, for  consumers'  goods  move  rapidly  from  one  class  of  middle- 
men to  another.  Hence  loans  for  commercial  purposes  may  and 
should  be  short-time  loans.  Such  quickly  liquidating  loans  are 
obviously  necessary  for  a  bank  which  makes  its  obligations  payable 
on  demand.  The  theory  underlying  the  commercial  bank  is 
unquestionably  sound.  But  in  practice  a  large  percentage  of  the 
loans  that  give  rise  to  demand  deposits  are  in  no  direct  way  related 
to  commercial  enterprises.  Overemphasis  on  the  demand  nature  of 
the  deposit  has  too  frequently  been  accompanied  by  an  underemphasis, 
if  not  a  total  ignoring,  of  the  actual  uses  to  which  the  funds  borrowed 
on  short  time  are  devoted. 

In  fact,  short-time  borrowings  from  "commercial"  banks  are  prob- 
ably more  often  devoted  to  non-commercial  than  to  commercial  pur- 
poses. For  instance,  the  funds  from  some  short-time  loans  are  used 
for  consumptive  purposes.  In  a  far  greater  number  of  cases,  however, 
they  are  devoted  to  speculation  and  long-time  investment.  The  mere 
facts  that  these  loans  are  of  short  duration,  that  they  give  rise  to 
demand  deposits,  and  that  collateral  security  is  usually  required  do 
not  make  them  commercial  loans,  even  if  they  are  granted  by  so-called 
commercial  banks.  The  very  fact  that  collateral  is  required  is  evi- 
dence enough  that  they  are  not  of  a  commercial  nature.  Genuine 
commercial  loans  require  no  collateral  security,  for  the  reason  that 
such  loans  are  self-liquidating. 


XVlii  INTRODUCTION 

Finally,  a  great  quantity  of  funds,  how  great  not  even  the  banks 
themselves  know,  is  annually  loaned  without  collateral  for  investment 
uses — loaned  by  "commercial"  banks  and  represented  on  the  liability 
side  of  the  account  by  demand  deposits.  The  American  practice  of 
granting  loans  on  single-name  paper,  provided  the  borrower's  character 
is  satisfactory  and  his  financial  statement  shows  a  ratio  of  quick  assets 
to  current  liabilities  of  more  than  two  to  one,  contains  no  guaranty 
that  the  funds  loaned  will  be  used  for  commercial  purposes. 

Legally  speaking,  our  national  and  state  banks  are  commercial 
banks,  since  they  make  short-time  loans  and  create  demand  obliga- 
tions. Economically  speaking,  they  are  as  much  investment  as  com- 
mercial institutions.  Practically  speaking,  the  greatest  problems  of 
banking  organization  and  control  center  around  this  confusion  of 
investment  and  commercial  operations,  the  results  being  manifested 
in  every  period  of  inflation  and  crisis.  Happily  the  Federal  Reserve 
Act  has  recognized  the  situation,  and  an  attempt  is  now  being  made  to 
eliminate  the  more  flagrant  abuses  that  have  developed  in  the  system. 

Turning  now  from  these  general  considerations  to  the  actual 
organization  of  the  materials  on  banking.  Part  II  of  the  book  is 
divided  into  the  following  chapters:  "Introduction";  "The  Nature 
and  Functions  of  Credit";  "Instruments  of  Commercial  Credit  and 
the  Law  of  Negotiability";  "Principles  of  'Commercial'  Banking"; 
"Relations  between  Banks";  "The  Regulation  of  Banking";  "The 
Federal  Reserve  System";  "Co-operative  Banking  Agencies"; 
"Agricultural  Credit";  "Investment  Banking  Institutions,"  and 
"The  Interrelations  of  Financial  Operations."  The  reasons  for  this 
general  arrangement  may  be  briefly  indicated. 

Since  banking  is  but  a  particular  type  of  credit  operation,  the  dis- 
cussion of  the  principles  of  banking  is  preceded  by  an  analysis  of  credit 
in  general.  The  central  purpose  in  this  analysis  of  credit  is  not  only 
to  show  the  nature  and  underlying  basis  of  credit  transactions,  but 
even  more — to  make  a  sharp  distinction  between  commercial  and 
investment  operations.  Without  a  clear  appreciation  of  the  -differ- 
ence between  a  commercial  and  an  investment  use  of  funds  the  student 
cannot  fully  understand  the  principles  of  regulation  of  banking  opera- 
tions that  have  been  developed  or  comprehend  the  problem  of  infla- 
tion and  commercial  crises;  while  this  twofold  classification  of  credit 
will  also  be  found  indispensable  to  an  adequate  discussion  of  savings 
banks,  agricultural  credit,  and  the  various  types  of  co-operative 
banking  institutions. 


INTRODUCTION  xix 

In  developing  the  principles  of  "commercial"  banking  and  the 
problems  that  arise  in  connection  therewith,  a  departure  has  been 
made  from  the  prevalent  method  of  treatment.  Following  an  analysis 
of  the  operations  of  a  bank  as  an  individual  business  institution,  we 
pass  to  a  discussion  of  the  relations  that  inevitably  develop  between 
banks.  These  interrelations  are  discussed  under  two  headings: 
(A)  "Within  a  Given  City,"  and  (B)  "The  System  as  a  Whole." 
The  materials  under  A,  together  with  the  questions  based  on  them, 
are  designed  to  indicate  the  inevitabiUty  of  the  interdependence  that 
exists,  and  to  show  how  competitive  forces  have  led  to  the  formation 
of  clearing-houses  and  the  various  regulations  developed  by  them, 
while  under  B  are  discussed,  first,  the  general  everyday  business  rela- 
tions that  exist  between  banks  in  different  communities,  and,  secondly, 
their  relations  in  times  of  tension  and  ease  in  the  money  market.  The 
latter,  again,  is  subdivided  into  (a)  seasonal  and  (b)  cyclical  inter- 
relations. 

In  the  treatment  of  crises  and  panics  no  attempt  is  made  to 
include  the  var,ious  theories  that  have  been  advanced  to  account  for 
the  periodicity  of  industrial  enterprise;  the  economic  c>xle  is  treated, 
in  the  main,  only  in  so  far  as  it  is  affected  by  banking  operations. 
In  discussing  the  relation  of  banking  to  the  economic  cycle,  however, 
attention  is  confined,  not  merely  to  the  exciting  period  just  preceding 
and  during  the  panic,  but  the  relation  of  banking  to  business  at  each 
stage  in  the  cycle  is  indicated.  It  has  been  difiicult,  however,  to  get 
entirely  satisfactory  readings  for  this  purpose,  owing  to  the  fact  that 
the  attention  of  writers  has  been  so  largely  given  to  the  crisis  and 
panic  stages  only. 

The  discussion  of  the  entire  problem  of  banking  in  relation  to  the 
economic  cycle  is  designed  to  bring  out  both  the  interdependence  of 
banking  relations  and  the  obvious  impossibility,  because  of  the  opera- 
tion of  independent  competitive  forces,  of  controlling  the  system 
through  voluntary  associations.  While  the  banks  as  a  whole  recog- 
nize the  mutuality  of  their  interests  and  the  necessity  of  concerted 
group  action,  nevertheless  the  persistence  of  individual  desire  to  make 
large  profits,  on  the  one  hand,  or  to  save  one's  self  first  in  case  of  a 
crisis,  on  the  other,  has  rendered  it  impossible  in  our  experience  for 
banking  institutions  to  organize  and  control  the  credit  system  in  the 
interests  of  the  larger  welfare. 

The  readings  under  "The  Regulation  of  Banking"  are  designed 
to  bring  out  the  general  principles  underlying  government  control. 


XX  INTRODUCTION 

and  to  show  the  regulations  that  have  been  developed  under  our 
national  and  state  banking  systems.  The  question  of  note  issues  is 
reserved  for  separate  treatment  because  of  its  great  historical  impor- 
tance and  because  of  the  special  problems  of  control  in  connection 
with  the  issue  function  that  remain  in  our  day,  even  though  the 
bank  note  has  now  assumed  a  position  of  less  importance.  In 
treating  the  problem  of  note  issues  general  principles  of  regulation 
are  put  forward  first  and  then  the  histor>^  of  bank-note  systems  is 
presented  in  the  light  of  these  principles. 

This  general  survey  of  our  banking  history  makes  it  possible  to 
discuss  the  Federal  Reserve  System  against  a  background,  not  only  of 
previous  governmental  control,  but  also  of  banking  experience  in  the 
matter  of  voluntary  regulation  through  clearing-house  associations. 

The  last  chapter  of  the  volume  is  an  attempt  to  show  the  many 
ways  in  which  commercial  and  investment  operations  are  interrelated 
in  the  financial  world  of  today,  and  to  indicate  the  problems  that  arise 
in  connection  with  the  control  of  the  system  of  finance  as  a  whole. 
One  phase  of  this  problem  is  the  general  confusion  of  commercial  and 
investment  operations  by  our  "commercial"  banks,  already  noted  in 
this  introduction;  and  another  phase  is  the  enormous  role  that  is 
played  by  the  investment  banker,  or  financier,  in  modern  business. 
The  concentration  movement  in  industry  has  been  paralleled  in  the 
financial  field;  in  fact,  the  two  movements  have  proceeded  hand  in 
hand,  mutually  helpful  and  mutually  necessary — ^joint  products  of 
common  underlying  causes.  The  power  of  the  financier,  however, 
is  greater  than  that  of  the  mere  captain  of  industry ;  for  by  virtue  of 
his  control  of  the  purse  the  financier  assumes  a  dominant  position,  not 
only  in  the  field  of  banking  and  finance,  but  in  the  whole  realm  of 
modern  industry.  The  proper  regulation  and  control  of  this  great 
power  in  the  interests  of  the  pubHc  as  a  whole  presents  one  of  the  most 
complex  and  delicate  problems  that  wull  confront  the  statesman  of 
the  future. 

The  omission  from  this  volume  of  certain  topics  that  are  cus- 
tomarily included  in  treatises  on  money  and  banking  remains  to  be 
considered.  An  author  always  has  to  stop  somewhere  because  of  the 
limitations  imposed  by  the  publishers,  if  for  no  better  reason.  In  a 
field  so  extensive  as  that  of  money  and  banking  the  problem  of  what 
may  best  be  omitted  presents  many  difficulties  and  must  be  decided 
in  the  light  of  niunerous  considerations.  The  first  important  omission 
to  be  noted  here  is  the  controversy  over  the  relation  of  money  and 


INTRODUCTION  XXl 

prices.  The  reason  for  this  omission  so  far  as  Part  I  is  concerned  is 
merely  that  price  theories  carmot  be  adequately  treated  until  after 
the  student  has  been  carried  through  an  analysis  of  credit  and  bank- 
ing. The  reason  for  omitting  the  subject  altogether  is  merely  that 
an  adequate  treatment  would  require  far  more  space  than  could  be 
given  it  in  a  volume  of  this  sort.  To  analyze  fully  the  price-making 
process  in  the  complicated  organization  of  modern  credit  society 
requires  an  entire  course  in  itself,  particularly  if  the  controverted 
points  are  adequately  discussed.  The  best  exposition  of  the  quantity 
theory  in  its  modern  form  has  required,  even  though  written  with 
unusual  conciseness,  a  good-sized  volume,  while  the  literature  of  the 
opposition  is  almost  as  voluminous.  As  I  see  it,  anything  less  than 
a  careful  analysis  of  the  price-making  process  is  a  mere  waste  of  time. 
Dogmatic  assertions  may  be  made  as  to  the  way  in  which  changes  in 
the  volume  of  money  and  credit  affect  the  price-level,  but  such  asser- 
tions serv'e  no  real  purpose;  on  the  contrary',  they  merely  dull  the 
desire  for  further  investigation. 

It  may  be  urged,  however,  that  the  price  problem  underlies  all 
the  monetary  questions  that  we  have  had,  and  that  without  a  correct 
theory  of  prices  one  cannot  understand  the  problems  of  bimetallism, 
fiat  money,  etc.  It  is  true  enough  that  price  is  fundamentally  con- 
nected with  these  problems,  but  it  does  not  follow  that  the  con- 
troverted points  of  price  theory-  must  be  settled  before  one  can 
understand  bimetallism,  etc,  I  know  of  no  writer  who  would  hold 
that  a  change  in  the  volume  of  the  standard  might  not  affect  prices. 
For  instance,  the  foremost  opponent  of  the  quantity  theory  admits,  as 
a  matter  of  course,  that  a  fall  in  the  value  of  the  standard  results  in, 
or  is  tantamount  to,  rising  prices,  and  vice  versa,  and  that  a  change 
from  a  metallic  to  a  depreciated  paper  standard  will  mean  higher 
(paper)  prices.  The  controversy  is  primarily  concerned  with  the 
method  by  which  prices  are  affected,  the  one  side  holding  that  prices 
can  change  only  as  the  value  of  the  standard  metal  in  which  prices 
are  measured  rises  or  falls,  and  that  such  change  may  be  independent 
of  any  offering  of  money  in  exchange  for  goods;  the  other  holding 
that  money  and  goods  constitute  the  opposite  sides  of  an  equation  of 
exchange,  and  that  prices  are  a  result  of  offers  of  money  (and  credit) 
directly  against  goods.  Now  all  this  discussion  of  the  mechanism  of 
the  price-making  process  is  irrmiaterial  in  an  analysis  of  bimetallism, 
debasements  of  the  currency,  and  fiat  money  schemes.  We  may 
safely  assume  that  a  depreciated  standard  always  means  higher  prices, 


xxu  INTRODUCTION 

other  factors  remaining  the  same;  and  this  assumption  will  be  found 
throughout  the  readings  on  these  topics.  This  relationship  of  money 
to  prices  is  brought  out  in  the  readings  and  questions  in  chap,  i,  and 
therefore  serves  as  a  sufficient  basis  for  a  discussion  of  the  monetary 
questions  which  follow. 

The  short  section  on  the  "Control  of  Price  Levels"  does  indeed 
involve,  if  adequately  discussed,  a  consideration  of  the  price  contro- 
versy. But  it  seemed  important  at  least  to  introduce  this  subject 
because  of  the  attention  the  tabular  standard  and  "compensated 
dollar"  have  attracted.  Some  practical  aspects  of  the  question  may 
be  considered,  at  any  rate,  in  the  absence  of  a  full  discussion  of  the 
theoretical  side. 

A  second  important  omission  is  foreign  exxhange.  The  justifica- 
tion for  omitting  this  subject  is  that,  so  far  as  the  general  principles 
underlying  exchange  are  concerned,  they  are  usually  presented  in 
introductory  courses  in  economics,  and  are,  moreover,  easily  available 
in  independent  works  like  those  of  Escher  and  Withers,  while  to  go 
farther  than  the  general  principles  and  treat  in  full  the  mechanism  of 
the  exchanges  would  require  a  large  volume  in  itself. 

Finally,  no  space  is  given  in  this  volume  to  the  banking  systems 
of  foreign  countries.  To  many  this  may  seem  unpardonable;  but  in 
my  view  foreign  banking  systems  may  well  be  left  for  an  advanced 
course.  Before  the  passage  of  the  Federal  Reserve  Act  the  teacher, 
by  rapid  talking,  might  find  some  time  at  his  disposal  for  a  brief 
survey  of  foreign  banking  systems.  The  time  required  to  expound 
the  Reserve  System  now  affords  no  opportunity  for  anything  like  an 
adequate  treatment  of  the  systems  of  other  countries  in  an  introduc- 
tory course.  Particularly  is  this  true  if  one  deems  it  important  to 
discuss  other  types  of  banking  institutions  than  the  commercial. 
However,  if  a  general  survey  of  foreign  systems  is  deemed  essential, 
material  for  the  purpose  may  be  readily  obtained  in  numerous  standard 
treatises.  Most  students,  indeed,  have  had  a  general  survey  in  the 
introductory  course  in  economics. 

It  is  far  from  my  purpose  to  belittle  the  value  of  studying  foreign 
banking  systems;  on  the  contrary,  I  would  hold  that  comparative 
study  is  indispensable  to  a  full  understanding  of  banking  organization 
and  control.  But  it  seems  to  me  that  a  student  should  first  become 
thoroughly  acquainted  with  one  system  in  the  light  of  its  historical 
development  and  in  its  manifold  aspects  before  undertaking  such 
comparative  study.    And  when  foreign  banking  is  discussed  something 


INTRODUCTION  xxiii 

besides  the  means  employed  by  central  banks  in  providing  elasticity 
of  notes  and  credit  in  time  of  stress  would  seem  to  be  essential.  One 
would  almost  think  from  the  usual  emphasis  on  the  central  banks 
of  foreign  countries  that  they  constitute,  if  not  the  only  banks  of 
importance,  the  only  ones  which  are  of  any  particular  interest  to  us. 
There  was  some  justification  for  this  method  before  the  passage  of  the 
Federal  Reserve  Act,  because  it  was  an  easy  means  of  indicating  pos- 
sible reforms  in  our  system  of  decentralized  banking.  The  banking 
systems  of  these  countries  cannot  be  really  understood,  however,  by 
an  analysis  of  the  methods  used  in  escaping  financial  panics  alone 
any  more  than  our  American  system  could  be  understood  and  appre- 
ciated by  beginning  and  ending  a  course  with  a  statement  of  the  means 
by  which  the  federal  reserve  banks  will  attempt  to  weather  the  recur- 
ring storms  of  finance.  In  a  separate  course  one  may  develop  the 
relations  that  exist  between  the  various  tjqjes  of  financial  institutions, 
show  the  reasons  for  and  the  advantages  or  disadvantages  of  prevailing 
methods  of  conducting  banking  and  credit  operations,  and  also  indi- 
cate through  historical  study  the  social,  political,  and  economic  forces 
that  have  conditioned  credit  and  banking  development  in  the  various 
countries.  The  data  and  conclusions  thus  obtained  should  prove  use- 
ful in  making  comparative  studies  of  banking  systems  that  would 
be  of  value  in  a  constructive  way  in  the  further  improvement  of 
our  own  system. 

In  conclusion,  an  attempt  has  been  made  in  this  volume  to  eluci- 
date the  principles  of  money  and  banking  in  the  light  of  practical 
experience;  to  give  a  better  understanding  of  the  problem  than  may 
be  gained  from  "scientific"  analysis  alone;  to  reveal  the  popular 
and  business  views  on  the  subject  and  the  part  these  have  played 
in  molding  the  history  of  currency  and  banking;  to  broaden  the  scope 
of  the  study  by  including  along  with  commercial  banks  investment 
institutions,  agricultural  credit,  and  co-operative  loan  associations, 
and  to  indicate  the  interrelations  of  commercial  and  investment 
operations  and  the  problems  that  arise  in  connection  with  financial 
concentration  and  control.  The  book  as  a  whole  is  designed  to  give 
a  well-rounded  view  of  the  principles  of  money  and  banking  as  they 
have  been  developed  in  this  country'  through  private  and  govern- 
mental experience. 


TABLE  OF  CONTENTS 

PART  I.    MONEY 
I.    THE  PECUNIARY  ORGANIZATION  OF  SOCIETY 

PACE 

Introduction 3 

A.  The  Nature  and  Functions  of  ]\Ioney 

1.  Barter  and  Its  Inconvenience.    Joseph  Harris      ....  5 

2.  A  Definition  of  Money 6 

3.  A  Common  Denominator  of  Value.    Indianapolis  Monetary 

Commission 7 

4.  The  Function  of  a  Medium  of  Exchange.     Fred  M.  Taylor  8 

5.  A  Store  of  Value.    Fred  M.  Taylor 10 

6.  The  Relation  of  Money  and  Prices 11 

7.  The  Standard  for  Deferred  Payments.    Indianapolis  Mone- 

tary Commission       12 

8.  Differentiation  of  Monetary  Functions.    W.  Stanley  Jevons  12 

B.  Money,  Capital,  and  Wealth 
(i)  The  Universal  Love  of  Money: 

9.  Proverbs  on  Money.     Walton  II.  Hamilton 13 

10.  Money  and  Human  Motives.     Walton  II.  Hamilton  ...  14 

11.  Money  Is  Power.    Edward  Lane 16 

(2)     Money  and  the  Regulation  of  Trade: 

12.  Poverty  and  the  Export  of  Precious  !Metals.    Martin  Luther  18 

13.  Advantage  of  a  Favorable  Trade  Balance.    Josiah  Tucker  k) 

14.  Mercantilism  in  1870.    Bonamy  Price 20 

~         "    ~  21 

22 
22 
23 


15.  The  Practical  Business  View  of  Wealth.    Henry  V.  Poor 

16.  Mercantilism  Today.    John  Callan  O'Laughlin    . 

17.  The  I'resent  Gratifying  Situation.    Chicago  Economist    . 

18.  Patronize  Home  Industry.    Walton  H.  Hamilton 
(3)  The  Confusion  Involved: 

19.  Whence  the  Complaint  of  the  Want  of  jMoney?     Joseph 

Harris 24 

20.  Money  and  Wealth.    John  Wither  spoon 25 

21.  A  Refutation.    Benjatnin  Franklin        25 

22.  A  Practical  Business  View  Today.    Moody's  Magazine    .      .        26 

23.  ^loney  and  the  Supply  of  Capital.    Charles  J.  Bullock    .      .        27 

24.  Is  Money  a  Superior  Kind  of  Wealth?    Charles  Gide  28 

25.  The  Supply  of  Standard  Money  Required.    Lyman  J.  Gage      30 


XXVI  TABLE  OF  CONTENTS 

PAGE 

C.  The  Role  of  Money  in  Industrial  Society 

26.  The  Standard  of  Deferred  Payments  and  Industrial  Progress. 

W.  Cunningham 31 

27.  Money  and  Capital  Accumulation.    Walton  H.  Hamilton      .  32 

28.  Money  and  Business  Organization.    Thorstein  Veblen      .      .  34 

29.  Money  and  Economic  Activity.     Wesley  C.  Mitchell      .      .  35 

30.  A  Pecuniary  Society.    H.  J.  Davenport 36 

31.  The  Role  of  Money  in  Economic  Organization.    Walton  H. 

Hamilton 39 

II.    THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY 

Introduction 45 

A.  Origin  of  Primitive  Money 

32.  The  Origin  and  Use  of  Money.    Adam  Smith        ....  46 
2,s-  Ornamentation  and  Money.    W .  W.  Carlile 46 

34.  The  Origin  of  Media  of  Exchange.    Karl  Menger      ...  48 

35.  The    Origin     of     Money     through    Intertribal    Relations. 

Carl  Biicher 51 

B.  Forms  of  Primitive  Money 

36.  Requisites  of  a  Satisfactory  Money  Material.    W.  Stanley 

Jevons 54 

37.  Primitive  Systems  of  Currency.     William  Ridgeway       .      .  56 

38.  Cattle  as  Money.    Homer 62 

39.  Early  Currency  of  the  American  Colonies.    Horace  White  62 

C.  The  Use  of  Metals  as  Money 

40.  Evolution  of  the  Precious  Metals.    Karl  Menger      ...  66 

41.  Superiority  of  Gold  and  Silver.    W.  Stanley  Jevons     ...  67 

42.  A  Monetary  Chronology.    Sound  Currency 69 

43.  The  Beginnings  of  European  Monetary  History.     W.  A. 

Shaw 72 

44.  Production  of  Gold  and  Silver  in  the  World  Since  the  Dis- 

covery of  America.     Director  of  the  Mint 74 

D.  Principles  of  Coinage 

45.  Invention  of  Coinage.    Henry  V.  Poor 75 

46.  Form,  Design,  and  Size  of  Coins.    W.  Stanley  Jevons      .      .  76 

47.  Coinage,  A  Government  Function.    W.  Stanley  Jevons    .      .  78 

48.  The  Coinage  Process  at  the  United  States  Mints.     Horace 

White 80 

49.  Coinage  Rules  and  Regulations 81 

50.  Seignorage.    Palgrave's  Dictionary  of  Political  Economy       .  85 

5 1 .  Social  Effects  of  a  Bad  Coinage.    Thomas  Babington  Macaulay  86 


TABLE  OF  CONTEXTS  xxvii 

III.    EARLY  EXPEDIENTS  FOR  INXREASIXG  THE 
CURRENCY 

PACE 

Introduction 89 

52.  Methods  of  Debasing  the  Standard.    Joseph  Harris  ...  90 

53.  Roman  Debasement  of  the  Currency.    /.  5.  Re  id      ...  90 

54.  The  Efifect  of  Roman  Debasements.    George  F inlay    ...  91 

55.  King  James's  Brass  Money.     Thomas  Babington  Macaiday  92 

56.  Coinage  Debasements  in  England.    James  Maclaren      .      .  93 

57.  Reasons  for  Debasing  the  Standard.    Joseph  Harris  93 

58.  A  Defense  of  the  Practice.    David  Hume 94 

59.  Gresham's  Law  and  the  Failure  of  Debasements.    W.  Stan- 

ley Jevons 95 

IV.    THE  STANDARD  QUESTION:    BIMETALLISM 

Introduction 96 

A.  General  Principles 

60.  The  Various  Kinds  of  Standards 98 

61.  The  Value  of  Standard  Money loi 

62.  The  "Popular  Conception  of  a  Dollar."    Simon  Newcomb  103 

63.  The  "Scientific"  Argument  for  Bimetallism.     Francis  A. 

Walker 103 

64.  Commercial  Ratio  of  Gold  and  Silver  Annually  Since  1687 

Director  of  the  Mint 105 

65.  Reasons  for  Variation  in  Relative  \'alue  of  Gold  and  Silver. 

Francis  A.  Walker 106 

66.  Gresham's  Law  and  Bimetallism 108 

67.  Gresham's  Law  Qualified.    Robert  Gijfcn 109 

68.  Compensatory  Action  of  a  Bimetallic  Standard.     William 

A.  Scott Ill 

B.  History  of  Bimetallism 

69.  Summary  Statement  of  Modern  Monetary  History.    It'.  A . 
Shaw 113 

70.  England's   Experience    with    Bimetallism.     Sophonisba    P. 

Breckinridge 115 

71.  The  Bimetallic  Experience  of  France  (Chart)  117 

72.  The  Adoption  of  the  Gold  Standard  by  Leading  Nations  118 

C.  Bimetallism  in  tiie  United  States  until  1873 

73.  The  .Adoption  of  a  Monetary  System  by  the  United  States. 

A.  Barton  Hepburn no 

74.  Effects  of  the  Changing  Ratio,  1 792-1S34 i-'o 

75.  Coinage  between  1792  and  1835.    A.  Barton  Hepburn  122 

76.  The  Act  of  1834 1-^2 


XXVUl  TABLE  OF  CONTENTS 

PAGE 

77.  Coinage  and   Exports   and   Imports  of  Precious  Metals, 

1836-60.    A.  Barton  Hepburn 123 

78.  The  Act  of  1853  and  Subsidiary  Silver 123 

79.  Laws  of  Token  or  Subsidiary  Metallic  Money.    Indianapolis 

Monetary  Commission 124 

80.  The  Act  of  1853  and  the  Standard  Question.    August  Roden  126 

D.  International  Bimetallism 

81.  The  Theory  of  International  Bimetallism        129 

82.  The  Latin  Monetary  Union        129 

83.  International  Bimetallic  Conferences.    Maurice  L.Muhleman  132 

V.    THE  STANDARD   QUESTION:    GOVERNMENT 
PAPER  MONEY 

Introduction 134 

A.  Advantages  of  Paper  Currency 

84.  Types  of  Government  Paper  Money 136 

85.  The  Origin  of  Representative  Money.    W.  Stanley  Jevons  .  137 

86.  General  Advantages  of  Paper  Money.     W.  Stanley  Jevons  137 

87.  Chinese  Paper  Money  in  the  Thirteenth  Century.    Marco 

Polo 139 

88.  Paper  Money  and  Prosperity.    Retford  Ctirrency  Society     .  141 

89.  Recent  Arguments  for  Paper  Money.    Century  Magazine      .  143 

B.  History  of  Government  Paper  Money 
(i)  Some  Early  Experiences: 

90.  The  French  Assignats  and  Mandats.    Century  Magazine      .  144 

91.  South  Carolina's  First  Paper  Money.    Sound  Ciirrency  .     .  148 

92.  Summary  of  Colonial  Issues.    Horace  White 153 

(2)  Paper  Money  as  a  Means  of  War  Finance: 

93.  The  Issue  of  Continental  Bills  of  Credit.    Charles  J.  Bullock  154 

94.  Effects  of  Continental  Currency  on  Debtors  and  Creditors. 

David  Ramsay 155 

95.  Demoralizing  Influence  of  the  Continental  Currency.  Pelatiah 

Webster 155 

96.  The  Spirit  of  the  Times 157 

97.  The  Excuse  for  Continental  Currency.    Charles  J.  Bullock  157 

98.  Paper  Currency  of  the  Confederacy.    G.  C.  Eggleston    .     .  159 

99.  A  Sample  Confederate  Note.     (Reproduction)      .           .  162 
ICO.  Reasons  for  the  Issue  of  the  Greenbacks.     Wesley  C.  Mitchell  162 

Id.  Fluctuations  in  Value  of  Greenbacks  (Chart) 168 

102.  Greenbacks  and  the  Cost  of  the  Civil  War.     Wesley  C. 

Mitchell 169 


TABLE  OF  CONTENTS  xxix 

PAGE 

103.  Effects  of  Greenbacks  on  Credit  Transactions.     Joseph  J. 

Klein 173 

104.  Paper  Money  and  Subsidiary  Currency.     Roland  P.  Falkncr  174 

C.  The  Aftermath  of  the  Greexbacks 

105.  A  Chronology  of  the  Greenbacks 178 

106.  The  Greenback  Movement.    Murray  S.Wildman            .      ..  '  179 

107.  The  Frontier  Farmer  and  Greenbackism.    Clyde  O.  Ruggles  186 

108.  Objections  to  Resumption  of  Specie  Payments.    Benjamin 

Butler 187 

109.  The  Resumption  of  Specie  Payments.    Alexander  D.  Noyes  189 
no.  Constitutionality   of   the   Legal-Tender   Notes.     Davis  R. 

Dewey 192 

111.  The  Greenback  Party  Platform  of  1878 197 

112.  The  Populist  Party  Platform  of  1896 198 

113.  A  Revival  of  "Greenbackism" .  198 

114.  Natural   Money,  The  Peaceful   Solution.     John  Raymond 

Ciimmings ■ 199 

D.  The  Regulation  of  Government  Paper  Currency 

115.  Methods  of  Regulating  Government  Paper 204 

116.  Irredeemable  Paper  Always  Bad.    John  Wilhcrspoon      .      .  205 

117.  Paper  IMoney  Sound  in  Theory.    David  Ricardo    ....  205 

118.  Guides  for  the  Control  of  Paper  Money.    Charles  Gide     .      .  206 

119.  Paper  Money   and   the   Foreign   Exchanges.     Francis   A. 

Walker 208 

VI.    THE  STANDARD   QUESTION:     THE  SILVER 
.       MOVEMENT  IN  THE  UNITED  STATES 

Introduction 210 

A.  The  Agitation  for  the  Recoinage  of  Silver 

120.  The  Crime  of  1873:  The  Indictment.    J.P.Dunn    .      .  212 

121.  The  Crime  of  1873:   The  Defense.    James  T.  McClcary        .  213 

122.  An  Economist's  View  of  the  Act  of  1873.    Francis  A .  Walker  216 

123.  The  Trade  Dollar.    A.  Piatt  Andrew 216 

124.  The  Bland-Allison  .^ct  of  1878 218 

125.  The  Sherman  Act  of  1890 219 

126.  The  Silver  Debate  of  1890.    Robert  F.  Hoxie 220 

127.  The  Viewpoint  of  the  Debtor  ]\Iasscs.    D.  W.  Voorhccs      .  22S 

128.  The  Viewpoint  of  the  Creditor  Classes.    Francis  A.  Walker  228 

B.  The  Results  of  the  Silver  Agitation 

129.  Difficulties    under    the    Bland-.VUison    Act.      Indianapolis 

Monetary  Commission 229 

130.  Currency  Receipts  from  Customs  Duties,  1878-9S  (Chart)  231 


XXX  TABLE  OF  CONTENTS 

PAGE 

131.  Greenback    and    Treasury    Note    Redemption    and    Gold 

Exports,  1879-97  (Chart) 232 

132.  Net  Gold  Reserve  in  the  'l^casury,  1879-98  (Chart)  .      .      .  233 

133.  The  Silver  Situation  and  the  Panic  of  1893.    Indianapolis 

Monetary  Commission 233 

134.  Our  Financial  Disease.    Grovcr  Cleveland 235 

135.  The  Bond  Issues  and  the  Banking  Syndicate.     William  J. 

Bryan 240 

C.  The  Close  of  the  Silver  Controversy 

136.  The  Issues  in  1896.    A.  Barton  Hepburn 241 

137.  Crucified  on  a  Cross  of  Gold.    William  J.  Bryan        .      .      .  243 

138.  Distribution  of  Vote  in  1896.    Charles  J.  Bullock       .      .      .  248 

139.  The  Act  of   1900  and   the   Greenback   Currency.     F.  W. 

Taussig 249 

140.  The  Act  of  1900  and  Treasury  Note  Retirement.    /.  Lau- 

rence Laughlin 252 

141.  Party  Statements  in  1896  and  191 2 254 

142.  The  Future  of  Gold  Production.     Director  of  the  Mint     .      .  255 

VII.    THE  STANDARD  QUESTION:    THE  CONTROL 

OF  PRICE  LEVELS 

Introduction 258 

143.  The  Nature  and  Purpose  of  the  Multiple  Standard.    David 

Kinley 259 

144.  Index  Numbers  and  Leading  Price  Tables.    Bureau  of  Labor 

Statistics 260 

145.  The  Fallacy  of  Index  Numbers.    Harold  Cox  ....".  263 

146.  Criticism  of  Usual  Index  Numbers  and  Price  Tables.    Wes- 

ley C.  Mitchell    .      .    ' 264 

147.  Criticism  of  the  Multiple  Standard.    /.  Laurence  Laughlin  266 

148.  Practical  Objections  to  the  Multiple  Standard.    Irving  Fisher  267 

149.  The  Compensated  Dollar.    Irving  Fisher 268 

150.  Criticism  of  the  Compensated  Dollar.     F.  W.  Taussig    .      .  2-ji 

VIII.    THE  EXISTING  SYSTEM  OF  THE  UNITED  STATES 

AND  PRINCIPLES  OF  REGULATION 

Introduction 276 

151.  Various  Forms  of  Money  in  the  United  States.     Treasury 

Circular 276 

152.  Redemption  of  Subsidiary  and  Representative  iSIoney    .      .  279 

153.  Legal-Tender  Provisions.     Treasury  Circular 280 

154.  Monetary  Stock  of  the  United  States.    Treasury  Report       .  281 

155.  Paper  Currency,  by  Denominations.    Treasury  Report    .      .  282 

156.  Ratio  of  Gold  to  the  Total  Stock  of  ISIoney  and  Per  Capita 

Circulation.  . 283 


PART  II.    BANKING 
I.    THE  VARIOUS  FORMS  AND  SERVICES  OF  BANKING 

PAGE 

Introduction          3 

1.  Commercial  Versus  Investment  Banking.    William  A.  Scott  4 

2.  A  Classification  of  Banks  and  Types  of  Banking  Operations  6 

3.  The  Various  Services  of  Banks.    James  W.  Gilbart     ...  7 

4.  The  Goldsmith  Bankers  in  England.    Palgravc's  Dictionary 

oj  Political  Economy 10 

II.     THE   NATURE   AND   FUNCTIONS   OF   CREDIT 

Introduction 12 

5.  A  Definition  of  Credit.    /.  Laurence  Laiighlin       ....  13 

6.  The  Basis  of  Credit 15 

7.  The  Various  Kinds  of  Credit 16 

8.  Commercial  \'ersus  Investment  Credit 20 

9.  The  Importance  of  Investment  Credit 21 

10.  The  Complicated  System  of  Commercial  Credit    ....  22 

11.  Is  Credit  a  Form  of  Capital  ?    J .  R.  McCiilloch    ....  26 

12.  The  Monetary  Function  of  Commercial  Credit.    ./.  Laurence 

Langhlin 28 

III.    INSTRUMENTS  OF  COMMERCIAL  CREDIT 

Introduction • 31 

13.  Types  of  Commercial  Credit  Instruments t,2 

14.  Origin  and  Development  of  Mercantile  Instruments.     11'//- 

liam  Green  Hale 35 

15.  The  Develppment  of  Credit  Instruments  in  the  United  States. 

Joseph  J .  Klein 36 

16.  The  Use  of  Checks  in  the  United  States.    David  Kinky       .  37 

17.  The  Law  of  Negotiable  Instruments.    D.  Curtis  Gano     .  40 

18.  Uniform  Negotiable  Instruments  Law.    William  Green  Hale  47 

IV.    PRINCIPLES  OF  "COMMERCIAL"   BANKING 

Introduction 40 

A.  Analysis  of  Banking  Operations  and  Accounts 

19.  Typical  Bank  Statements 51 

20.  Analysis  of  a  Bank  Statement 53 

21.  Discount,  Deposit,  and  Issue.    Charles  F.  Dunbar      ...  57 

xxxi 


xxxu  TABLE  OF  CONTENTS 

PAGE 

22.  The  One  Underlying  Function  of  a  Bank.    //.  Parker  Willis  60 

23.  Ratio  of  Notes  to  Deposits  in  Different  Classes  of  Banks     .  62 

24.  Principal  Items  in  National  Bank  Statements       ....  63 

25.  The  Function  of  a  Cash  Reserve.    Irving  Fisher  ....  64 

B.  Analysis  of  Bank  Loans 
(i)  Introductory: 

26.  The  Management  of  Loans 66 

27.  Classification  of  Loans  in  National  Banks.    Comptroller  of  the 

Currency 67 

28.  Classification  of  Loans  in   State  Banks,    1909.     National 

^  Monetary  Commission 69 

(2)  Commercial  Paper: 

29.  Loans  on  Commercial  Paper.    Roger  W.  Babson  and  Ralph 

May 69 

30.  Kinds  of  Commercial  Paper.     /.  Laurence  Laughlin  ...        70 

31.  Duration  of  Commercial  Paper.    Roger  W.  Babson  and  Ralph 

May 73 

32.  Confusion  of  Commercial  and  Investment  Loans.    William 

A.  Scott 75 

SS-  The  Credit  Department  of  a  Bank 77 

34.  A  Financial  Statement 78 

35.  Commercial  Paper  Houses  and  Note  Brokers      ....  79 

(3)  Collateral: 

36.  Loans  on  Collateral 81 

37.  The  Cause  of  the  Development  of  Collateral  Loans  in  the 

United  States.    Earle  P.  Carman 83 

38.  Call  Loans 84 

39.  Collateral  Loans  and  Stock  Exchange  Speculation.    Sereno 

S.  Pratt 8s 

40.  A  Collateral  Note  and  Agreement 90 

41.  Interest  Rates  in  the  New  York  Money  Market.    William  A. 

Scott 91 

V.    RELATIONS  BETWEEN  BANKS 

Introduction 94 

A.  Within  a  Given  City 
(i)  Loaning  Relations: 

42.  Reserves  of  Clearing-House  Banks  and  Trust  Companies  in 

New  York.    Commercial  and  Financial  Chronicle    ...  96 

43.  National  Banks  and  Trust  Companies.    0.  M.  W.  Sprague  98 

44.  Interdependence  of  Bank  Reserves.    Victor  Morawetz      .     .  98 

45.  Early  Settlement  of  Balances  between  Banks.     James  G. 

Cannon 100 


TABLE  OF  CONTENTS  xxxiii 

PACE 

46.  Loans  of  New  York  Banks  and  Clear ing-Housc  Balances  loi 
(2)  Clearing-Hoiiscs: 

47.  The  Origin  of  Clearing-Houses  in  the  United  States.    James 

G.  Cannon 102 

48.  The  Principle  Involved  in  "Clearing."    Charles  F.  Dunbar     103 

49.  Organization  and  Operation  of  Clearing-Houses.    Jatnes  G. 

Cannon 104 

50.  Special  Functions  of  Clearing-Houses.    James  G.  Cannon  108 

51.  Clearings  of  Non-Member  Banks  in  Chdcago.     James  G. 

Cannon 113 

The  System  as  a  Whole 
(i)  General  Relations: 

52.  Collecting  Out-of-Town  Checks.    James  G.  Cannon  .     .     .  113 

53.  Lost  Motion  in  Collecting  Checks.     James  C.  llallock     .      .  115 

54.  Correspondent  Relations  between  Banks.    Williavi  A.  Scott  116 

55.  The  Concentration  of  Money  in  Great  Financial  Centers       .  iiS 

56.  Examples  of  Rapid  Concentration  of  Funds.    Fred  M.Taylor  119 

57.  New  York,  the  Great  Financial  Center.    O.  M.  W.  Spragtie  120 

58.  Paying  Interest  on  Deposits  and  Bank  Competition.    George 

S.  Coe 120 

59.  Rediscbunting  by  National  Banks.     Lawrence  0.  Murray  122 

60.  Various  Means  of  Intersectional  Borrowing.    Joseph  J .  Klein  123 
(2)  Periodic  Tension  and  Ease  in  the  System: 

a)  Seasonal: 

61.  Seasonal  Variations  in  New  York  Money  Market.    Edwin 

Walter  Kemmerer 125 

62.  Seasonal  Variations  in  Other  Centers.    Edwin  Walter  Kem- 

merer   128 

63.  The  Theory  of  Domestic  Exchange.    William  A.  Scott    .      .     129 

64.  Exchange  Rates  and  Movements  of  Currency  to  and  frpm 

Chicago.    Edwin  Walter  Kemmerer 132 

65.  Interest  on  Deposits  and  Seasonal  Disturbances.     Willi<jm 

A.  Richardson 135 

66.  Seasonal   Fluctuations  and   Commercial  Failures.     Edwin 

Waller  Kemmerer 136 

67.  Seasonal  Variations  in  Supply  of  Currency.    Edwin  Walter 

Kemmerer 137 

68.  Inelasticity  of  Currency  for  Seasonal  Needs.    Comptroller  of 

the  Currency 139 

69.  The  Treasury  and  the  Banks:   Historical  Summary.    David 

Kinlcy 140 

70.  Resultsof  the  Isolation  of  Public  Funds.    Murray  S.Wildman     142 

71.  Treasury  Aid  for  Seasonal  Stringency.    Journal  of  Political 

Economy 144 


xxxiv  TABLE  OK  CONTENTS 

PACK 

b)  Cyclical: 

72.  The  Pcriodicily  of  Fluctuations  in  Trade.    5.  /.  Chapman  147 

73.  Crises  and  Panics  in  the  United  States 148 

74.  The  Rhythm  of  Business  Activity.    Wesley  C.  Mitchell  .      .  150 

75.  Seasonal  Variations  and  Panics.    Edwin  Walter  Kemmerer  .  157 

76.  The  Period  of  Depression.    Moody's  Magazine      .  157 

77.  Banking  Conditions  during  Depressions.    Walter  W.  Stewart  159 

78.  Banking  Policy  in  Periods  of  Expanding  Business.    0.  M. 

W.  Spragiie 160 

79.  Banking  Policy  Immediately  Preceding  a  Crisis.    O.  M.  W. 

Sprague 163 

80.  A  Sample  Foreboding.    Elliot  C.McDougal 165 

81.  Independent  Banking  the  Cause  of  Inflation.     Victor  Mora- 

wets    167 

82.  The  Character  of  the  Panic  of  1893.    Alexander  D.  Noyes  170 

83.  Events  in  the  Panic  of  1907.    Ralph  Scott  Harris  .      .      .      .172 

84.  The  Hoarding  of  Currency  in  1893.    J.  DcWitt  Warner       .  173 

85.  The  Strain  upon  New  York  in  Time  of  Panic.     0.  M.  W. 

Sprague 174 

86.  Suspension  of  Specie  Payments.    O.  M.  W.  Sprague  .      .      .  175 

87 .  The  New  York  View  of  Interior  Currency  Shipments.    Current 

Economic  Problems 177 

88.  Loaning  Policy  during  a  Crisis.    0.  M.  W.  Sprague   .     .     .  177 

89.  Position  of  Banks  in  Time  of  Panic.    H.  J.  Davenport  .     .  180 

90.  Treasury  Aid  in  Time  of  Crisis.    David  Kinky       .      .      .      .  181 

91.  The  Need  in  Time  of  Crisis.    J.  Laurence  Laughlin     .      .      .  184 

92.  Bond-Secured  Notes  and  Cyclical  Elasticity.     Indianapolis 

Monetary  Commission  .      .     . 185 

93.  Interest  on  Deposits  and  Bank  Note  Elasticity.    0.  M.  W. 

Sprague 187 

94.  Clearing-House  Loan  Certificates  and  Equalization  of  Re- 

serves.  O.M.W.  Sprague 188 

95.  Substitutes  for  Cash  in  the  Panic  of  1907.    A.  Piatt  Andrew  192 

VI.    THE  REGULATION  OF  BANKING 

Introduction 197 

A.  Governmental  Sxjpervision 

96.  Incorporation.    William  A.  Scott 199 

97.  Adoption  of  the  System  of  Free  Banking.    Horace  White  200 

98.  The  Kirby  Private  Bank  Failure.     Chicago  Banker    .           .  201 

99.  The  Position  of  Private  Bank  Depositors.     Chicago  Banker  201 
100.  The  Nature  of  Government  Supervision  of  National  Banks  202 


TABLE  OF  CONTENTS  xxxv 

PAGE 

loi.  The  Menace  in  Government  Control  of  Banking.     Elmer 

H.  Youngman 204 

102.  Government  Versus  Private  Control.     The  Outlook  .      .      .     206 

B.  Regulation  of  National  Bank  Operations 

103.  Capital,  Surplus,  and  Shareholder's  Liability 207 

104.  Reserve  Requirements 207 

105.  Reasons  for  Legal   Regulation  of  Reserves.     Charles  A. 

Conant 209 

106.  Restrictions  on  Loans 210 

107.  Objections  to  Loans  on  Real  Estate.    Pratt's  Digest  .  212 

108.  Argument  for  Loans  on  Real  Estate.    0.  M.  ]V.  Spragne     .  212 

109.  Causes  of  National  Bank  Failures.    Comptroller  of  the     . 

Currency 213 

C.  Regulation  of  State  Banking 

no.  Growth  and  Importance  of  State  Banks  and  Trust  Companies 

(Chart) 215 

111.  Summary   of    Legislation    Affecting    State    Banks.     John 

Franklin  Ebersole 217 

112.  The  Functions  of  Trust  Companies.    Ralph  W.  Davis     .  219 

113.  The  Banking  Functions  of  Trust  Companies.    F.  B.  Kirk- 

bride  and  J.  E.  Sterrett      221 

114.  Causes  of  the  Growth  of  Trust  Companies.    Clay  Ilerrick  222 

115.  The  Regulation  of  Trust  Companies.    John  Franklin  Eber- 

sole      223 

116.  Trust  Company  Failures.    Clay  Herrick 224 

D.  The  Regulation  of  Note  Issues 

(i)  General  Principles: 

117.  IMethods  of  Bank  Note  Regulation.    Fred  M.Taylor      .      .     225 
1x8.  The  "Currency"  Versus  the  "Banking"  Principle.    N.  G. 

Pierson 230 

(2)  Historical  Experiences  with  Note  Issues: 

119.  The  Rhode  Island  Land  Bank.    Century  Magazine     .      .      .     235 

120.  Early  State  Bank  Note  Issues.    Davis  R.  Dewey  ....     239 

121.  Note  Issues  under  the  Free  Banking  System.     John  Jay 

Knox 243 

122.  The  Safety-Fund  Banks.     John  Jay  Knox 246 

(3)  Asset  Currency: 

123.  The  Argument  for  Asset  Currency.    Indianapolis  Monetary 

Commission 247 

124.  The  Need  of  a  System  of  Redemption.    Indianapolis  Mone- 

tary Commission 248 


xxxvi  TABLE  OF  CONTENTS 

PACK 

(4)  Bank  Notes  under  the  National  Banking  System: 

125.  Reasons  for  Establishing  the  National  Banking  System. 

Andrew  McFarland  Davis 253 

126.  Evils  of  Non-Uniform  Issues.    Andrew  McFarland  Davis      .  253 

127.  The  Protest  against  National  Bank  Issues.    Horace  Boies      .  255 

128.  Double  Profit  on  Bank-Note  Issues.    R.W.Jones     .     .  257 

129.  Analysis  of  Profit  in  Bank-Note  Circulation.     Comptroller 

of  the  Currency 257 

VII.    THE  FEDERAL  RESERVE  SYSTEM 

Introduction 259 

A.  General  Description  of  the  System 

130.  The  Creation  of  the  Federal  Reserve  System.    C.  W.  Barron  262 

131.  The  Underlying  Purpose  of  the  Act.    C.W.  Barron  .     .     .  264 

132.  A  Bird's-eye  View  of  the  Federal  Reserve  System.    Charles  S. 

Hamlin 265 

133.  The  Federal  Reserve  Districts 268 

134.  Comparative  Data  on  Districts.   Journal  of  Political  Economy  269 

135.  Superiority  of  District  over  Central  Bank  Plan.    /.  Laurence 

Laughlin 270 

136.  Reasons  for  Choice  of  Districts.    The  Organization  Committee  271 

137.  Criticism  of  the  Districts  Chosen.     Journal  of  Political 

Economy 273 

138.  The  Federal  Reserve  Board.    E.  E.  Agger       .  •    .     .     .     .  276 

139.  Functions  of  the  Reserve  Banks.    Federal  Reserve  Board      .  277 

140.  The  Directors  of  the  Federal  Reserve  Banks.     Milton  C. 

Elliot 280 

B.  The  Practical  Working  oe  the  System 

141.  Defects  to  be  Remedied  by  the  Act.    J.  Laurence  Laughlin    282 

142.  Three  Types  of  Bank  Notes  in  the  Future.    Thomas  Conway 

and  Ernest  M.  Patterson 283 

143.  Elasticity  of  Notes  under  the  New  Law.    Fred  M.Taylor     .     287 

144.  Elasticity  of  Credit  under  the  New  Law.     /.  Laurence 

Laughlin 295 

145.  Aid  in  the  Moving  of  Crops  under  the  New  System.    Federal 

Reserve  Board 298 

146.  Greenbacks  and  the  Federal  Reserve  System.    A.  D.  Welton  299 

147.  Rediscounting  and  Expansibility  of  Deposits.    E.  E.  Agger  300 

148.  Discount  Rates  Established.    Federal  Reserve  Board  .      .      .  303 

149.  Present  Discount  Rates.    Federal  Reserve  Bulletin      .      .      .  304 

150.  Rediscoimts  between  Federal  Reserve  Banks.    Federal  Re- 

serve Board 305 

151.  The  Advantages  of  a  Discount  jNIarket  to  Bankers.    Frank 

A.  Vanderlip 305 


TABLE  OF  CONTENTS  xxxvii 

PAOt 

T52.  The  Nature  and   Advantages  of  Bank  Acceptances.     Phe 

Guaranty  Trust  Company  of  New  York 307 

153.  Provisions  Governing  Bankers'  Acceptances.     Federal  Re- 

serve Board 309 

154.  Domestic  Acceptances  Provided  For.    Federal  Reserve  Board    312 

155.  Federal  Reserve  Banks 'and  the  Foreign  Exchanges.    E.  E. 

Agger 314 

156.  Open-Market  Operations.    Federal  Reserve  Board       .     .     .  316 

157.  Time  Deposits  and  Savings  Accounts.     Federal  Reserve  Board  318 

158.  Combined  Statements  of  Federal  Reserve  Banks.    Federal 

Reserve  Bulletin 321 

159.  Clearings  under  the  New  System.    Federal  Reserve  Board      .  322 

160.  GoldClearance  Fund  at  Washington.   Federal  Reserve  Bulletins  322 

161.  Inter-District  Collections.    Milton  C.  Elliot 324 

C.   Rel.'^tion  of  the  System  to  Other  Banking  Institutions 

162.  Membership  of  State  Banks  in  the  Federal  Reserve  System. 

Journal  of  Political  Economy 325 

163.  A  State  Banker's  View  of  the  Federal  Reserve  System. 

Frank  N.  Briggs 327 

164.  The  Attitude  of  the  Federal  Reserve  Board.     Charles  S. 

Hamlin 329 

165.  New  York's  New  State  Banking  Law.    Theo.  H.  Price    .  330 

166.  The  Trust  Companies  and  the  Federal  Reserve  Act.    Journal 

of  Political  Economy 33^, 

167.  Department-Store  Banking.    The  Annalist 335 

168.  The  Federal  Reserve  System  Not  a  Harmonizing  Agency. 

A.  D.  Welton 33^ 

VIII.    CO-OPERATIVE  BANKING  AGENCIES 

Introduction 338 

A.  The  Loan  Sharks 

169.  The  Salary  Loan  Business  in  New  York  City.    Clarence  W. 

Wassam 339 

170.  Efforts  at  Remediation.    Arthur  U.  11  am 343 

171.  The  Loan-Shark  Campaign.    Malcolm  W .  Davis  ....  345 

172.  The  !Morris  Plan  of  Loaning  on  Personal  Responsibility 

Literary  Digest 347 

B.  Co-operative  Institutions 

173.  Co-operative  Credit  Unions.     Arthur  H.  Ham  and  Leonard 

G.  Robinson 348 

174.  The  Blessings  of  Co-operative  Banks.    Henry  W.  WoljT  .  353 


xxxviil  TABLE  OF  CONTENTS 

PAGE 

C.  Building  and  Loan  Associations 

175.  The  Building  and  Loan  Movement  in  the  United  States. 

James  M.  McKay 354 

176.  Local  versus  National  Associations.     Seymour  Dexter  .      .      .     360 

177.  A  Financial  Statement.    Peoples^  Building  and  Loan  Asso- 

ciation       361 

178.  The  Appeal.    Swedish  Home  Building  Association      .     .     .     362 

IX.    AGRICULTURAL  CREDIT 
Introduction 363 

A.  Short-Time  "Commercial"  Credit 

179.  Short-Time  Agricultural  Loans  in  the  United  States.    Edwin 

Walter  Kemmerer 365 

180.  Present  Facilities  for  Agricultural  Credit.    U.S.  Department 

of  Agriculture 369 

181.  Reasons  for  Poor  Credit  in  the  South.    (Mrs.)  G.  H.  Mathis     371 

182.  Plans  for  Improving  Farm  Credit  with  Local  Banks.    C.  W. 

Thompson 373 

183.  Short-Time  Personal  Credit  among  Jewish  Fanners.   Leonard 

G.  Robinson 375 

184.  The  Argument  for  Direct  Government  Loans.    E.  R.  Bath- 

rick    376 

B.  Long-Time  Investment  Credit 

185.  Farm  Mortgage  Credit  in  the  United  States.  C.W.Thompson    379 

186.  Rates  on  Farm  Loans.    United  States  Department  oj  Agri- 

culture       382 

187.  Explanation  of  High  Rates  to  Farmers.    H.  S.  Van  Alstine.    383 

188.  The  Weakness  of  the  Present  Mortgage  System.     C.  W. 

Thompson     .      .      .     • 384 

189.  Legal  Obstacles  Prevent  a  Wide  Market  for  Farm  Mortgages. 

H.  M .  Hanson 385 

190.  The  Trouble  with  the  Average  Farmer.    A.L.Rogers     .      .     385 

191.  The  Legitimate  Purposes  of  Mortgage  Loans.    Edmund  F. 

Adams 389 

192.  Agricultural  Credit  Institutions.    R.  B.  Van  Cortlandt    .     .  389 

193.  An  Amortization  Loan.     Woodruff  Trust  Company     .           .  390 

194.  European  Systems  Not  Needed  in  the  United  States.    Henry 

Wallace 392 

195.  A  Better  Leasing  System  Needed.    Henry  Wallace     .     .     .     393 

196.  The  Jewish  Agricultural  and  Industrial  Aid  Society.    George 

W.  Simon 395 


TABLE  OF  CONTENTS  xxxix 

PAGE 

197.  State  Rural  Credit  Legislation.    The  Outlook 396 

198.  Wisconsin's  Experiment  in  Rural  Credit.    //.  /.  Dreher  .  397 

199.  Federal  Legislation  on  Rural  Credit.     Journal  of  Political 

Economy 400 

X.    INVESTMENT  BANKING  INSTITUTIONS 

Introduction 402 

A.  Savings  Banks 

200.  Types  of  Savings  Institutions.     William  H.  Knijffen,  Jr.      .  403 

201.  Mutual  Savings  Banks  in  the  United  States.    Comptroller  of 

the  Currency 406 

202.  Stock  Savings  Banks  in  the  United  States.    Comptroller  of 

the  Currency 407 

203.  Savings  in  National  Banks.    Comptroller  of  the  Currency      .  408 

204.  The  Regulation  of  Savings  Banks.    Homer  IJoyt  ....  409 

205.  Liquidity  Needed  in  Savings  Bank  Investments.    George  E. 

Edwards 412 

206.  School  Savings  Banks.    Sara  Louisa  Oberhollzer    .      .      .      .418 

207.  The  Argument  for  Postal  Savings  Banks.    George  von  L. 

Meyer 419 

208.  Some  Details  of  the  Postal  Savings  System.     Postmaster- 

General    421 

209.  Success  of  the  Postal  Savings  System.     Postmaster-General  423 

210.  The  Future  of  Savings  Banks.    Milton  W.  Harrison  425 

211.  Life  Insurance  Companies  as  Investment  Institutions.    A .  S. 

Johnson 426 

212.  Investments  of  Insurance  Companies.    Robert  Lynn  Cox      .  427 

B.  Investment  Banks  or  Bond  Houses 

213.  The  Marketing  of  Bonds.    Theo.  H.  Price 429 

214.  The  Practical  Operation  of  Bond  Houses.    Lawrence  Cham- 

berlain        434 

21$.  The  Basis  of  Bond  Values.    Theo.  H.  Price 439 

XL    THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS 

Introduction 441 

A.  Investment  Operations  of  Commercial  Banks 

216.  The  Relation  of  the  Banks  to  Stock  Exchange  Securities. 

Jacob  H.  Hollatuier  442 

217.  Investment  Loans  of  Commercial  Banks.    C.  W.  Barron  448 

218.  The  Misuse  of  Commercial  Bank  Funds.    H.  M.  Geiger  .  449 


xl  TABLE  OF  CONTENTS 


I'ACE 


219.  The  Advanlage  of   the   Draft  over   tlie   Promissory   Nulc 

in  Commercial  Banking.     Earle  P.  Carman  -451 

220.  The  Advantages  of  the  Promissory  Note  or  Single-Name 

Borrowing.    J .  B.  Forgan 453 

221.  Investment  Banking  and  Business  Inflation.     Wall  Street 

Journal 454 

222.  Why   "Commercial"   Banks   Became   Investment   Banks. 

Louis  D.  Brandeis 455 

223.  Effects  of  Industrial  Expansion  on  Demand  Deposits  of 

Commercial  Banks.    Frederick  A.  Cleveland       .  .      .456 

224.  Results   of   Investment   Loaning   by   Commercial   Banks. 

William  A.  Scott 458 

B.  The  Federal  Reserve  System  and  Investment  Operations 

225.  Effect  of  the  New  System  on  Stock  Exchange  Speculation. 

Thomas  Conway  and  Ernest  M.  Patterson 460 

226.  The  Federal    Reserve    System   and   Industrial  Expansion. 

C.  W.  Barron 461 

227.  Commercial  Paper  under  the  New  System.    Eugene  E.  Agger.     462 

228.  Regulations  regarding  Commercial  Paper.     Federal  Reserve 

Board 465 

229.  Trade  Acceptances.    Federal  Reserve  Board 469 

230.  The  Advantages  of  the  Trade  Acceptance.    Federal  Reserve 

Bulletin 470 

C.  Financial  Concentration  and  Control 

231.  Our  Financial  Oligarchy.    Louis  D.  Brandeis 471 

232.  The  Satellites  of  the  "Money  Trust."    Pujo  Committee  .     .     476 

233.  The  Defense  of  Financial  Concentration.    7.  P.  Morgan  bf 

Company 477 

234.  Results  of  the  Money  Trust  Investigation.   American  Banker     484 

235.  Prohibition  of  Interlocking  Directorates  by  the  Clayton  Act. 

Journal  of  American  Bankers^  Association 485 

236.  The  Economic  Functions  of  the  Financier  in  Modem  Indus- 

try.   John  A.  Hobson 487 


PART  I 
MONEY 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY 
Introduction 

Within  the  complicated  structure  of  modern  industrial  society  the 
institution  of  money  is  of  supreme  importance.  Indeed,  it  is  indis- 
pensable to  the  system  of  co-operative  enterprise  by  means  of  which 
the  wealth  of  the  world  is  nowadays  produced.  Moreover,  the  more 
highly  specialized  the  productive  process  becomes,  the  more  important 
is  the  role  assumed  by  money;  though  it  should  not  be  understood 
from  this  that  money  was  unimportant  before  the  industrial  revolu- 
tion and  among  the  more  primitive  forms  of  organization.  Practically 
speaking,  from  the  very  beginning  of  the  division  of  labor  and  the 
exchange  of  commodities  it  has  been  of  the  greatest  significance — a 
conditioning  factor  at  every  step  in  the  evolution  of  industr}'. 

In  beginning  the  study  of  money,  therefore,  it  is  necessary  to 
consider  first  the  various  services  or  functions  that  it  performs  in  con- 
nection with  the  everyday  process  of  procuring  the  means  of  livelihood. 
These  are  set  forth  in  the  selected  readings  below  under  Section  A, 
"The  Nature  and  Functions  of  Money."  It  is  important  to  bear  in 
mind  when  studying  these  selections  that  the  writers  have  a  special 
point  of  view.  They  are  endeavoring  to  analyze  the  working  of 
economic  forces,  as  the  physicist  analyzes  the  working  of  physical 
forces;  and  from  this  standpoint  it  appears  to  them  unnecessary 
to  attach  any  particular  importance  to  tlie  popular  views  on  the 
subject  of  money  and  the  influence  that  these  exert  in  directing  the 
daily  activities  of  mankind.  For  the  pur^xtse  in  hand  they  need 
merely  look  upon  economic  society  as  a  great  and  complicated  struc- 
ture or  mechanism  and  endeavor  to  ascertain  and  describe  the  part 
that  money  plays  in  such  a  system.  Thus  viewed,  money  is  found 
to  be  an  agent  that  is  performing  several  functions  that  are  quite 
as  important  as,  though  perhaps  less  obvious  than,  those  performed 
by  railways  or  manufacturing  establishments. 

Section  B,  "Money,  Capital,  and  Wealth,"  portrays  the  confusion 
of  mind  that  has  always  existed  on  the  subject  of  money.    The  fact 

3 


4  PRINCIPLES  OF  MONEY  AND  BANKING 

that  the  values  of  all  other  commodities  are  stated  in  terms  of  money, 
and  that  it  constitutes  a  general  fund  of  purchasing  power — a  veri- 
table key  to  things  desired — has  always  resulted  in  a  very  general 
misunderstanding  of  its  real  importance  and  significance.  By  many 
people  money  has  almost  been  regarded  as  an  end  in  itself,  rather 
than  as  merely  the  means  to  an  end;  and  by  still  more  it  has  been 
deemed  at  least  a  very  superioT:  form  of  wealth,  a  plentiful  or  scanty 
supply  of  which  renders  a  nation  rich  or  poor,  powerful  or  impotent. 
The  results  of  these  confused  ideas  on  the  subject  are  shown  in  follow- 
ing chapters.  It  need  merely  be  said  here  that  the  exciting,  even 
bitter,  monetary  controversies  that  have  for  centuries  almost  con- 
tinuously commanded  the  attention  of  mankind  center  very  largely 
around  this  popular  misconception  of  the  nature  and  functions  of 
money. 

The  selections  under  Section  C,  "The  Role  of  Money  in  Industrial 
Society,"  are  written  from  an  angle  or  point  of  view  somewhat  differ- 
ent from  that  taken  in  the  selections  under  Section  A.  While  not 
denying  that  money  performs  the  functions  first  enumerated,  these 
writers  are  not  content  to  let  the  analysis  stop  at  that  point.  Rather, 
they  use  these  underlying  functions  of  money,  that  is,  as  a  medium  of 
exchange,  common  denominator  of  values,  etc.,  as  a  starting-point 
for  a  broader  analysis  of  tlie  dominant  place  that  money  occupies 
in  directing  the  ordinary  everyday  business  of  the  world.  Since 
money  constitutes  a^  fund  of  general  purchasing  power,  it  serves 
as  the  basis  of  all  business  undertakings  and,  either  directly  or 
indirectly,  as  a  measure  of  practically  all  the  affairs  of  life.  By 
it  we  express  the  relative  value  or  worth  of  all  commodities  what- 
soever; we  use  it  as  a  convenient  measure  of  services  of  every 
kind;  indeed,  it  is  frequently  charged  that  we  measure  human 
worth  and  achievement  in  terms  of  dollars  and  cents.  We  reckon 
national,  as  well  as  individual,  wealth  in  money,  and  even  say  that 
the  wealth  of  the  nation  is  one  hundred  twenty  billions  of  doUars, 
as  though  it  actually  consisted  of  so  much  coined  metal  or  printed 
paper  money. 

This  universal  measuring  of  things  in  terms  of  dollars  and  cents 
has  placed  money  in  a  position  of  unique  importance  in  the  industrial 
system.  The  desire  to  make  money  appears  to  be  the  mainspring  of 
human  effort  and  the  basis  of  business  organization.  Price  becomes 
the  great  controlling  and  directing  force  in  economic  affairs,  the 
very  center  of  the  economic  structure  of  society. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  5 

A.    The  Nature  and  Functions  of  Money 

By  JOSEPH  HARRIS 

I.    BARTER  AND  ITS  INCONVENIENCE- 

In  the  earliest  stages  of  culture  commerce  between  individuals 
takes  place  exclusively  by  means  of  a  direct  exchange  of  commodities. 
A  fish  is  traded  for  a  fowl  and  a  bow  fot  a  dozen  arrows,  in  the  same 
way  that  boys  in  a  highly  complex  society  often  make  a  direct 
exchange  of  a  top  or  a  ball  for  a  knife  or  a  puzzle.  It  is  in  the  incon- 
venience of  this  direct  exchange  of  commodities,  or  barter,  that  we 
find  the  origin  of  the  institution  of  money. 

The  first  commerce  amongst  men  was  undoubtedly  carried  on  by 
barter,  or  the  exchange  of  one  commodity  for  another.  But  as  men 
and  arts  increased,  a  mere  barter  of  commodities  became  incon- 
venient and  insufl&cient  in  abundance  of  instances.  For  it  must  needs 
frequently  happen  that  one  man  would  want  goods  of  another  who 
had  no  present  use  for  those  goods  which  he  had  to  give  in  exchange; 
and  therefore  to  him  these  goods  would  be  but  of  small  value;  and 
it  might  be  a  tedious  and  intricate  course,  before  the  goods  of  the 
first  man  could  be  so  often  bartered,  till  at  length  they  became 
exchanged  into  that  particular  commodity  which  the  second  wanted. 
The  same  inconvenience  would  attend  private  bills,  or  promissory 
notes;  for  the  note  could  not  well  be  discharged  till  the  man  who  gave  it 
met  with  a  customer  that  had  goods  which  suited  him.  Added  to 
this  was  the  difiiculty  that  contracts  payable  in  goods  were  uncertain, 
for  goods,  even  of  the  same  kind,  differ  in  value.  One  horse  is  worth 
more  than  another  horse;  wheat  off  one  field  is  better  than  wheat 
ofif  another;  cows,  horses,  swine,  etc.,  wheat,  barley,  oats,  etc.,  might 
differ  greatly  in  their  value.  A  great  disparity  also  would  frequently 
happen  between  artificial  things  of  the  same  sort,  as  one  workman 
excelled  another.  So  that  in  this  state  of  barter  there  was  no  scale, 
or  measure,  by  which  the  proportion  of  value  which  goods  had  to 
one  another  could  be  ascertained. 

In  a  state  of  barter  there  can  be  but  little  trade  and  few  artisans. 
For  want  of  a  ready  exchange  for  their  goods  people  would  look 
little  farther  than  to  get  food  and  some  coarse  raiment:  The  landed 
men  would  till  only  so  much  land  as  sufficed  their  own  families  and 
to  procure  them  those  few  rude  necessaries  which  the  country  afforded. 

'Adapted  from  An  Essay  on  Money  and  Coins  (1757).  Reprinted  in  SeUct 
Tracts  on  Currency,  pp.  368-69. 


6  PRINCIPLES  OF  MONEY  AND  BANKING 

Hence,  wilhoul  sonic  kind  of  money  ihe  arts  can  make  no  progress; 
and  witliout  the  arts  a  country  cannot  grow  populous  or  flourish. 
Ignorance  and  ifUeness  will  naturally  ]>eget  trespasses,  incroachments, 
wars,  and  contentions,  ever  destructive  to  the  growth  of  a  people. 
Docs  not  this  account  for  what  we  daily  see,  even  amongst  nations 
reckoned  polite?  And  how  important  is  it  that  the  rulers  of  the 
eartli  should  be  more  liberally  educated  ? 

2.    A  DEFINITION  OF  MONEY 

"Money  is  a  medium  of  exchange."  This  is  the  common  dic- 
tionary definition  of  the  term,  but,  as  we  shall  see,  it  is  much  too 
limited  in  scope  and  conveys  but  an  imperfect  idea  of  the  nature  and 
functions  of  money.  Ask  the  ordinary  man  on  the  street,  who  knows 
no  book  definition,  what  money  is,  and  he  will  tell  you  readily  enough 
that  money  comprises  coins  of  gold,  silver,  nickel,  and  copper;  and 
paper  money.  He  will  usually  not  know  the  distinctions  between  green- 
backs, silver  or  gold  certificates,  and  bank  notes;  so  far  as  he  is  con- 
cerned all  these  are  merely  "paper,"  as  distinguished  from  "metallic" 
money.  Such  instruments  as  checks  and  drafts  he  would  probably  not 
consider  money,  though  he  would  doubtless  recognize  that  they  per- 
form a  service  very  similar  to  that  performed  by  money.  He  might 
add,  if  questioned  further,  that  money  is  something  specifically  devoted 
to  the  work  of  making  exchanges,  and  that  it  has  been  manufactured 
for  that  precise  purpose.  Finally,  he  would  be  sure  to  appreciate  that 
the  possession  of  money  would  give  him  purchasing  power,  regardless 
of  whether  he  came  by  the  money  honestly  or  dishonestly,  whether  his 
own  credit  was  good  or  bad.  Bringing  all  this  now  into  the  semblance 
of  a  definition,  we  might  say  that  money  includes  those  instruments 
of  exchange  which  pass  freely  from  hand  to  hand,  without  reference  to 
the  personal  credit  of  the  parties  concerned. 

Such  a  definition,  while  quite  satisfactory^  in  the  ordinary  world 
of  affairs,  and,  indeed,  while  perhaps  as  good  a  cut-and-dried  definition 
as  could  be  given  for  any  purpose,  will  require  a  number  of  qualifica- 
tions and  ex-planations  for  the  purpose  of  economic  analysis.  We  shall 
need  to  know  the  differences  between  real  and  representative  money, 
and  between  standard  and  subsidiary  and  token  money.  We  shall 
need  to  know,  further,  the  functions  which  money  serves  other  than 
as  a  means  of  exchanging  commodities. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  7 

3.    A  COMMON  DENOMINATOR  OF  VALUE' 

It  is  necessary  to  ask,  first,  Why  does  a  country  need  a  common 
denominator  or  standard  of  value  ?  Obviously,  every  article  possess- 
ing value  can  be  compared  with  other  articles  having  value  only  by 
reference  to  some  given  standard  which  itself  possesses  value.  The 
value  of  a  commodity,  it  should  be  said,  is  the  quantity  of  another 
commodity,  or  other  commodities,  for  which  it  will  exchange.  To  be 
obliged  to  go  through  an  arduous  comparison  of  one  article  with  every 
other  article  created  would  be  an  insuperable  diflficulty.  If  a  tailor 
had  only  coats,  and  wanted  to  buy  bread  or  a  horse,  it  would  be  very 
troublesome  to  ascertain  how  much  bread  he  ought  to  oljtain  for  a 
coat,  or  how  many  coats  he  should  give  for  a  horse.  The  calculation 
must  be  recommenced  on  different  data  every  time  he  barters  his 
coat  for  a  different  kind  of  article,  and  there  could  be  no  current 
price  or  regular  quotations  of  value.  As  it  is  much  easier  to  compare 
different  lengths  by  expressing  them  in  a  common  language  of  feet  and 
inches,  so  it  is  much  easier  to  compare  values  by  means  of  a  common 
language  of  dollars  and  cents.  In  short,  a  common  denominator  is  as 
necessary  in  comparing  the  value  of  commodities  as  is  a  common 
language  among  many  persons  in  any  one  city  to  enable  them  readily 
to  compare  ideas.  Before  property  can  be  conveniently  traded  in, 
or  exchanged,  its  value  must  be  expressed  in  terms  of  a  common 
denominator  of  value. 

There  is,  however,  no  absolute  measure  of  value,  as  there  is  of 
length.  A  common  denominator  of  value  and  a  unit  of  length,  like 
a  yardstick,  are  wholly  different  in  kind.  A  yardstick  is  an  unvar}-ing 
measure  of  length;  but  a  metal,  or  any  commodity,  is  not  and  never 
can  be  an  unvarying  measure  of  the  relations  of  that  metal  or  com- 
modity to  other  commodities  which  are  constantly  changing  relatively 
to  each  other.  The  very  commodity  chosen  as  a  standard  can  be 
changed  in  value  by  causes  affecting  itself;  and  the  other  commodi- 
ties (which  are  compared  with  the  standard)  can  be  changed  by 
causes  affecting  them;  so  that  the  ratio  of  exchange  with  the  chosen 
standard  may  be  modified  by  causes  affecting  either  or  both  terms  of 
the  ratio.  It  is  inconceivable  that  any  one  article  should  alter 
exactly,  and  in  a  compensating  direction,  with  iiinunicrablc  ollur 
commodities. 

'  Adiipted  from  Report  of  tlie  Monetary  Commission  of  the  InJianapoUs  Con- 
vention  (1898),  pp.   77-80. 


8  PRINCIPLES  OF  MONEY  AND  BANKING 

A  wide  difTerence  is  thus  observable  between  the  function  of 
money  as  a  common  denominator  of  value  and  its  function  as  a 
medium  of  exchange.  A  common  denominator,  whether  it  is  a 
perfect  one  or  not,  is  used  to  measure  value;  a  medium  of  exchange 
is  used  to  transfer  value.  The  two  processes  are  entirely  distinct. 
The  difference  will  be  instantly  seen  by  the  analogy  with  weight:  the 
machinery  for  weighing  coal,  the  scales,  does  one  duty;  while  that 
for  transporting  coal,  the  horses  and  wagon,  does  another  duty. 
If,  instead  of  coal,  we  think  of  all  goods,  and,  instead  of  weight,  we 
think  of  value,  then  money  is  used  both  as  a  measure  of  the  value 
and  also  as  a  means  of  exchange — although  these  two  functions  are 
quite  distinct.  In  the  case  of  value,  an  article,  after  being  expressed 
in  terms  of  a  standard,  is  ready  to  be  exchanged. 

But  the  one  important  idea  to  be  kept  firm  hold  of  in  all  dis- 
cussions of  money  is  that  when  it  comes  to  exchanging  goods  the 
metal  chosen  as  the  common  denominator  is  not  necessarily  used  as  the 
medium  of  exchange.  If  gold,  for  instance,  is  chosen  as  the  common 
denominator  by  a  country,  it  does  not  at  all  follow  that  gold  is  used  in 
all  the  transactions  requiring  a  medium  of  exchange.  Various  forms  of 
subsidiary  currency  may  be  and  indeed  usually  are  used  instead  of  the 
standard  money.  The  first  historical  fact  which  confronts  us  is  that 
in  a  society  which  has  passed  beyond  the  stage  of  barter,  but  which  has 
not  yet  developed  the  habits  of  a  modem  commercial  nation,  money 
is  usually  passed  from  hand  to  hand  in  buying  and  selling.  The  com- 
modity selected  as  a  common  denominator  is  then,  also,  practically 
the  sole  medium  of  exchange.  But  as  soon  as  commerce  develops, 
expedients  arise  for  saving  the  expense  and  risk  of  using  actual  money. 

THE  FUNCTION  OF  A  MEDIUM  OF  EXCHANGE' 
By  FRED  M.  TAYLOR 

An  illustration  which  shows  the  precise  nature  of  this  function 
very  clearly  is  furnished  by  the  case  of  the  farmer  who  comes  to  town 
with  a  load  of  wood,  sells  it  for  five  dollars,  and  then  spends  the 
money  buying  groceries,  dr\^  goods,  etc.  What,  now,  are  the  char- 
acteristic features  of  this  method  of  procedure?  First,  it  is  plain 
that  the  single  transaction  of  barter  has  given  place  to  two  trans- 
actions, a  sale  of  one  commodity  and  a  purchase  of  another.  This, 
however,  does  not  quite  exhaust  the  matter. 

•  Adapted  from  Some  Chapters  on  Money,  pp.  14-16.  Published  by  the  Uni- 
versity of  Michigan,  1906. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  9 

Between  the  two  transactions  thus  substituted  for  tlie  one  trans- 
action there  is  necessarily  an  intermediate  stage,  an  interval  of 
waiting,  long  or  short,  which  gives  the  farmer  who  has  sold  his  wood 
for  money  a  chance  to  get  himself  into  relation  with  the  men  from 
whom  he  is  going  to  buy  groceries  and  dry  goods.  Further,  if  money 
exchange  is  going  to  be  a  really  great  improvement  over  barter,  this 
interval  of  waiting  must  be  capable  of  indefinite  extension;  for  the 
farmer  will  not  necessarily  wish  to  spend  the  whole  proceeds  of  his 
wood  for  groceries  and  dry  goods  or  anything  else  on  the  same  day 
that  he  sells  that  wood.  It  may  easily  be  for  his  interest  to  separate 
sale  and  purchase  by  weeks  or  even  months.  For  example,  he  will 
be  selling  wood  every  day  during  the  good  sleighing  of  midwinter;  but 
he  will  want  to  do  the  buying  part  of  the  operation  all  along  till  sum- 
mer crops  begin  to  bring  in  something.  It  is  thus  evident  that  money 
exchange  really  breaks  up  barter  into  three  parts;  viz.,  (i)  selling  goods 
for  money,  (2)  keeping  the  money  till  other  goods  are  needed,  and 
(3)  using  the  money  to  buy  other  goods.  It  is  further  evident  that  in 
these  three  stages,  as  looked  at  from  the  standpoint  of  the  man  who 
starts  out  with  goods  to  sell,  money  plays  three  difi"erent  parts.  In 
the  first,  its  role  is  that  of  a  thing  which  can  be  obtained  with  any  goods 
whatsoever.  In  the  third,  its  part  is  that  of  a  thing  which  can  obtain 
any  goods  whatsoever.  In  the  second,  its  business  is  to  keep — store — 
this  power  to  obtain  other  goods. 

But  just  here  we  need  to  be  a  little  careful.  In  trying  to  realize 
clearly  that  acting  as  a  medium  of  exchange  involves  three  stages,  we 
must  not  fall  into  the  mistake  of  supposing  that  money  is  to  be  thought 
of  as  a  medium  of  exchange  only  when,  and  in  so  far  as,  it  carries  an 
exchange  transaction  completely  through  its  three  stages.  Doubtless 
money  has  not  entirely  performed  its  part  as  a  medium  of  exchange 
till  the  farmer  who  has  sold  his  wood  for  money  has  also  used  the 
money  to  buy  shoes  or  something  else.  Still,  it  is  performing  that 
part  in  each  stage  of  the  operation.  It  is  serving  as  a  medium  of 
exchange,  provided  it  is  doing  for  anybody  any  one  of  the  three  things 
which  are  essential  to  a  complete  exchange  operation.  That  is, 
money  is  serving  as  a  medium  of  exchange  cither  (i)  when  a  man  is 
getting  it  in  exchange  for  goods,  or  (2)  when  a  man  is  keeping  it  on 
hand  with  the  intention  of  using  it  at  the  proper  lime  in  the  purchase 
of  goods,  or  (3)  when  he  is  actually  using  it  to  purchase  goods.  Or, 
to  change  the  form  of  expression,  money  is  a  medium  of  exchange 
so  long  as   it   is  being  sought  after,   or  being  kept,   or  being  used 


lO  PRINCIPLES  OF  MONEY  AND  BANKING 

solely  to  buy  goods,  either  for  its  owner  or  for  someone  to  whom  he 
transfers  it  as  a  gift  or  as  a  means  of  settling  an  obHgation,  When 
no  longer  employed  in  one  of  these  ways  it  has  ceased  to  be  a  medium 
of  exchange. 

S.    A  STORE  OF  VALUE' 
By  FRED  M.  TAYLOR 

This  function  of  money  has  its  origin  in  two  facts  already  touched 
upon  in  speaking  of  the  medium  of  exchange;  viz.:  (i)  that  a  neces- 
sary stage  in  the  effecting  of  exchanges  through  money  is  the  interval 
of  waiting  between  the  sale  of  goods  for  money  and  the  use  of  the 
money  to  buy  other  goods,  and  (2)  that  this  stage  can  usually  be 
indefinitely  prolonged  at  the  will  of  the  owner  of  the  money.  As  a 
result  of  these  facts  our  freedom  of  choice  as  to  the  time  when  we 
shall  utilize  our  wealth  is  indefinitely  increased .  The  products  of  today 
are  sold  today;  but  through  the  magic  of  money  they  satisfy  the 
wants  of  next  week  or  next  month  or  next  year.  It  sometimes 
happens  that  people  sell  things  which  will  keep  indefinitely  and  which 
they  really  want  and  will  later  buy  back  with  the  very  money  received 
from  their  sale,  simply  because  they  consider  the  money  a  safer 
form  in  which  to  keep  their  wealth  during  the  interval.  This  is 
especially  likely  to  happen  in  badly  governed  countries  where  property 
is  insecure.  But  it  also  happens  in  well-governed  countries  if  for  any 
special  cause  temporary  insecurity  prevails.  On  the  eve  of  a  great  war 
bonds  and  stocks  are  likely  to  be  treated  in  this  way.  So  in  the  midst 
of  a  disastrous  war  even  a  civilized  nation  may  be  in  such  desperate 
straits  that  people  anticipate  a  confiscation  of  certain  kinds  of  property 
and  hasten  to  turn  them  into  money  as  being  more  easily  concealed.  In 
such  extreme  cases  as  these  it  certainly  seems  legitimate  to  say  that 
money  acts  as  a  storer  of  value.  But  even  in  the  more  ordinary  cases, 
so  long  as  the  special  object  in  the  mind  of  the  seller  of  goods  is  to 
get  his  wealth  into  a  form  which  will  keep,  we  may  without  serious 
impropriety  describe  the  operation  as  a  storing  of  value.  Only  we 
must  not  forget  that  money's  storing  value  is  not  a  work  independent 
of  its  serving  as  a  medium  of  exchange,  but  is  merely  the  artificial 
prolongmg  or  emphasizing  of  one  of  the  three  necessary  stages  in  its 
mediating  of  exchanges. 

'  Adapted  from  Some  Chapters  on  Money,  pp.  20-22.  Published  by  the  Uni- 
versity of  Michigan,  1906. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  ii 

6.    THE  RELATION  OF  MONEY  AND  PRICES 

When  we  say  that  money  serves  as  a  common  denominator  or 
standard  of  values  we  mean  that  it  is  the  one  commodity  with  which 
or  by  which  all  others  are  compared.  Now  in  comparing  any  given 
commodity  with  money  it  is  of  course  necessary  to  take  a  certain 
definite  quantity  of  such  commodity  and  also  a  definite  quantity  of 
the  monetary  material.  The  quantity  of  money  that  has  been 
chosen  in  the  United  States  as  the  standard,  or  dollar,  is  25 . 8  grains  of 
metal,  of  which  23.22  grains  is  gold  and  the  remainder  copper  alloy. 
To  express  the  value  of  another  commodity  in  terms  of  money,  there- 
fore, we  always  compare  a  certain  quantity  of  it,  as  a  pound,  bushel, 
or  yard,  with  25 . 8  grains  of  standard  gold.  If  a  bushel  exchanges  for 
a  dollar,  we  say  its  price  is  one  dollar;  while  if  it  requires  two  dollars, 
or  one-tenth  of  a  dollar  only,  to  make  an  even  exchange,  then  we 
say  the  price  is  two  dollars  or  ten  cents. 

While  this  universal  statement  of  values  in  terms  of  price  is  of  ines- 
timable advantage,  it  nevertheless  gives  rise  to  problems  of  its  own. 
The  article  chosen  as  a  standard  is  itself  a  commodity  and  subject 
in  consequence  to  fluctuations  in  value  when  compared  with  other 
commodities.  The  forces  that  may  influence  prices  in  general  are 
numerous  and  the  question  of  price  levels  is  one  of  the  most  complex 
in  the  entire  field  of  economics.  But  without  going  into  any  of  the 
controverted  questions  we  may  nevertheless  elucidate  here  a  funda- 
mental principle.  If  for  any  cause  whatever  the  value  of  the  stand- 
ard should  fall,  it  is  obvious  that  the  prices  of  all  other  commodities, 
assuming  no  change  in  them,  would  rise.  And,  conversely,  if  the 
value  of  gold  should  rise,  the  prices  of  other  commodities  would  fall. 
Indeed,  it  is  often  stated  that  a  fall  in  the  value  of  gold  is  a  rise  in 
prices,  since  it  is  by  means  of  rising  prices  that  the  fall  in  value  mani- 
fests itself.  At  any  rate  this  general  price  relation  or  equation 
is  fundamental  to  monetary  discussions. 

Wherever  time  contracts  are  entered  into  the  parties  thereto 
face  the  possibility  that  the  money  which  constitutes  the  legal  means 
of  payment  may  change  in  value,  and  at  the  expiration  of  the  con- 
tract stand  for  a  greater  or  less  purchasing  power  in  terms  of  other 
commodities.  This  uncertainty  is  ordinarily  not  of  great  importance 
for  oljligations  of  short  duration;  but  there  have  been  occasions  when 
a  fluctuating  value  of  the  standard  money  has  utterly  demoralized 
business — that  based  on  short-time  as  well  as  that  based  on  long-time 
contracts.     It  is  for  this  reason   that  stabiHty  of  value  is  always 


12  PRINCIPLES  OF  MONEY  AND  BANKING 

emphasized  as  of  the  greatest  importance  in  connection  with  the  com- 
modity chosen  as  money. 

7.    THE  STANDARD  FOR  DEFERRED  PAYMENTS' 

We  may  now  consider  the  third  function  of  money,  namely,  to 
serve  as  a  standard  of  deferred  payments.  Whenever  a  contract  is 
made  covering  a  period  of  time,  within  which  serious  changes  in  the 
economic  world  may  take  place,  then  difficulties  may  arise  as  to  what 
is  a  just  standard  of  payments.  Various  articles  might  serve  equally 
weU  as  a  standard  for  exchanges  performed  on  the  spot,  but  it  is  not 
so  when  any  one  article  is  chosen  as  a  standard  for  deferred  payments. 
Without  much  regard  to  theory,  the  world  has  in  fact  used  the  same 
standard  for  transactions  whether  settled  on  the  spot  or  whether 
extendmg  over  a  period  of  time. 

In  order  to  work  with  perfection  as  a  standard  for  deferred  pay- 
ments, the  article  chosen  as  that  standard  should  place  both  debtors 
and  creditors  in  exactly  the  same  absolute,  and  the  same  relative, 
position  to  each  other  at  the  end  of  a  contract  that  they  occupied  at 
its  beginning.  This  implies  that  the  chosen  article  should  maintain 
the  same  exchange  value  in  relation  to  goods,  rents,  and  the  wages  of 
labor  at  the  end  as  at  the  beginning  of  the  contract,  and  it  implies  that 
the  borrower  and  lender  should  preserve  the  same  relative  position  as 
regards  their  fellow  producers  and  consumers  at  the  later  as  at  the 
earUer  point  of  time,  and  that  they  have  not  changed  this  relation,  one 
at  the  loss  of  the  other.  This  makes  demands  which  any  article  that 
can  be  suggested  as  a  standard  obviously  cannot  satisfy.  And  yet 
it  is  a  practical  necessity  of  society  that  some  one  article  should  in 
fact  be  selected  as  the  standard.  The  business  world  has  thus  been 
forced  to  find  some  commodity  which — while  admittedly  never 
capable  of  perfection — provides  more  nearly  than  anything  else  all  the 
essentials  of  a  desirable  standard. 

8.    DIFFERENTIATION  OF  MONETARY  FUNCTIONS' 
By  W.  STANLEY  JEVONS 

It  is  in  the  highest  degree  important  that  the  reader  should  dis- 
crimmate  carefully  and  constantly  between  the  four  functions  which 
money  fulfils,  at  least  in  modern  societies.     We  are  so  accustomed  to 

'  Adapted  from  Report  of  the  Monetary  Commission  of  the  Indianapolis  Con- 
vention (1898),  pp.  92-93. 

'Adapted  from  Money  and  the  Mechanism  of  Exchange,  1875,  PP-  16-17. 
(D.  Appleton  &  Co.) 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  13 

use  the  one  same  substance  in  all  the  four  different  ways  that  they  tend 
to  become  confused  together  in  thought.  We  come  to  regard  as 
ahnost  necessary  that  union  of  functions  which  is,  at  the  most,  a 
matter  of  convenience,  and  may  not  always  be  desirable.  We 
might  certainly  employ  one  substance  as  a  medium  of  exchange,  a 
second  as  a  measure  of  value,  a  third  as  a  standard  of  value,  and  a 
fourth  as  a  store  of  value.  In  buying  and  selling  wc  might  transfer 
portions  of  gold;  in  e.xjjressing  and  calculating  prices  we  might  speak 
in  terms  of  silver;  when  we  wanted  to  make  long  leases  we  might 
define  the  rent  in  terms  of  wheat,  and  when  we  wished  to  carr}-  our 
riches  away  we  might  condense  it  into  the  form  of  precious  stones. 
This  use  of  different  commodities  for  each  of  the  functions  of  money 
has  in  fact  been  partially  carried  out.  In  Queen  Elizabeth's  reign 
silver  was  the  common  measure  of  value ;  gold  was  employed  in  large 
payments  in  quantities  depending  upon  its  current  value  in  silver, 
while  corn  was  required  by  the  Act  i8th  Elizabeth,  c.  VI.  (1576),  to 
be  the  standard  of  value  in  drawing  the  Idases  of  certain  college  lands. 
There  is  evident  convenience  in  selecting,  if  possible,  one  single 
substance  which  can  serve  all  the  functions  of  money.  It  will  save 
trouljlc  if  we  can  pay  in  the  same  money  in  which  the  prices  of  things 
are  calculated.  As  few  people  have  the  time  or  patience  to  investigate 
closely  the  history  of  prices,  they  will  probably  assume  that  the  money 
in  which  they  make  all  minor  and  temporary  bargains  is  also  the 
best  standard  in  which  to  register  debts  and  contracts  extendmg  over 
many  years.  A  great  mass  of  payments  too  are  invariably  fixed  by 
law,  such  as  tolls,  fees,  and  tariffs  or  charges;  many  other  payments 
are  fixed  by  custom.  Accordingly,  even  if  the  medium  of  exchange 
varied  considerably  in  value,  people  would  go  on  making  their  pay- 
ments in  terms  of  it  as  if  there  had  been  no  variation,  some  gaining  at 
the  expense  of  others. 

B.     Money,  Capital,  and  Wealth 

(i)  THE  UNIVERSAL  LOVE  OF  MONEY 

9.    PROVERBS  ON  MONEY' 

A  man  without  money  is  a  bow  without  an  arrow. 
A  man  without  money  is  a  ship  without  sails. 

A  thousand  pounds  and  a  bottle  of  hay 

Are  just  the  same  at  doomsday. 

'  Compiled  by  Walton  H.  Hamilton. 


14  PRINCIPLES  OF  MONEY  AND  BANKING 

A  man  without  money  is  like  a  ])ird  without  wings;  if  he  soars  he 
falls  to  the  ground. 

Money  does  not  get  hanged. 

Money  is  the  best  bait  to  fish  for  men  with. 

Money  is  the  soul  of  business. 

Money  is  a  universal  language,  speaking  any  tongue. 

If  you  have  money,  take  a  seat; 
If  you  have  none,  take  to  your  feet. 

Mention  money,  and  the  world  is  silent. 

Money  answereth  all  things. 

Money  begets  money. 

He  that  hoardeth  up  money  takes  pains  for  other  men. 

He  who  hath  both  money  and  bread 

May  choose  with  whom  his  daughter  to  wed. 

If  a  man's  money  be  white,  no  matter  if  his  face  be  black. 

If  you  have  money,  you  are  wise;  if  not,  you  are  a  fool. 

If  you  make  money  your  god,  'twill  plague  you  like  the  devil. 

Give  me  money,  not  advice. 

God  makes  and  apparel  shapes,  but  it  is  money  that  finishes  the 
man. 

God  send  you  more  wit  and  me  more  money. 

Hate,  religion,  ambition,  all  have  their  hypocrisies,  but  money 
applies  the  thumbscrew  to  them  all. 

But  help  me  to  money  and  I'll  help  myself  to  friends. 

He  that  hath  no  money  in  his  purse  should  have  fair  words  on  his 
lips. 

Good  manners  and  plenty  of  money  will  make  my  son  a  gentleman. 

Money  makes  a  man  for  ilka  that. 

One  handful  of  money  is  stronger  than  two  handfuls  of  truth. 

Put  not  your  trust  in  money,  but  your  money  in  trust. 

WTien  money  speaks,  truth  keeps  silence. 

Money  is  a  sword  that  can  cut  even  the  Gordian  knot. 

lo.  :money  and  human  motives' 

Nothing  in  use  by  man,  for  power  of  ill, 

Can  equal  money.     This  lays  cities  low, 

This  drives  men  forth  from  quiet  dwelling-place. 

This  warps  and  changes  minds  of  worthiest  stamp 

To  turn  to  deeds  of  baseness. 

— Sophocles 

Compiled  by  Walton  H.  Hamilton. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  15 

Money's  the  life  and  soul  of  mortal  man. 

Who  has  it  not,  nor  has  acquired  it, 

Is  but  a  dead  man,  walking  'mongst  the  quick. 

— TiMOCLES 

How  greatly  everywhere 
Prevails  the  power  of  the  two  oboli. 

— ^Aristophanes 

Cursed  be  he  above  all  others 
Who's  enslaved  by  love  of  money. 
Money  takes  the  place  of  brothers. 
Money  takes  the  place  of  parents. 
Money  brings  us  war  and  slaughter. 

— Anacreon 

What  power  has  law  where  only  money   rules? — Petronius 
Arbiter. 

For  the  love  of  money  is  the  root  of  all  evil. — Paul  of  Tarsus. 

'Tis  money  makes  the  man;  and  he  who  's  none 
Is  counted  neither  good  nor  honorable. 

— Diogenes  Laertius 

Money  alone  sets  all  the  world  in  motion. — Publius  Syrus. 

I  .  ,  .  .  found  him  whom  I  left  a  foe,  my  friend. 
What  will  not  money  do  ? 

— Plautus 

Money,  the  sinews  of  war. — Cicero. 

There  is  no  sanctuary  so  holy  that  money  cannot  profane  it,  no 
fortress  so  strong  that  money  cannot  take  it  by  storm.-  -Cicero. 

Men  dig  the  earth  for  gold,  seed  of  unnumbered  ills. — Ovn). 

Make  money,  money,  man; 
Well,  if  so  be, — if  not,  which  way  you  can. 

— Horace 

All  things,  human  and  divine,  reno^\^l, 
Honor,  and  worth,  at  money's  shrine  bow  down. 

— Horace 

None  questions  whence  it  comes,  but  come  it  must. — Juvenal. 

"The  beautiful  eyes  of  my  money-box!" 
He  speaks  of  it  as  a  lover  of  his  mistress. 

— MOLliRE 


l6  PRINCIPLES  OF  MONEY  AND  BANKING 

For  I  did  dream  of  money-bags  to-night. — Shakespeare. 

If  money  go  before,  all  ways  do  lie  open. — Shakespeare. 

Whilst  that  for  which  all  virtue  now  is  sold, 
And  almost  every  vice — almighty  gold. 

— Ben  Jonson 

Money  brings  honor,  friends,  conquest,  and  realms. — Milton. 
Get  money,  get  money  still. 
And  then  let  virtue  follow  if  she  will. 

—Pope 

But  the  jingling  of  the  guinea  helps  the  hurt  that  honor  feels. — 
Tennyson. 

II.    MONEY  IS  POWER' 
By  EDWARD  LANE 

The  measure  under  consideration  affects  the  people  I  have  the 
honor  to  represent  more  than  any  question  that  has  come  before  this 
Congress.  It  is  a  measure  cognate  with  the  tariff.  By  this  and 
kindred  acts  the  money  is  passed  from  the  Government  to  the  people. 
Money  is  as  old  as  civiUzation  and  its  existence  is  necessary  to  society. 
The  use  of  money  is  all  the  advantage  there  is  in  having  it,  yet  money 
makes  up  in  a  measure  all  other  wants  in  man.  The  greatest  want  of 
the  commercial  and  business  Hfe  of  this  country  today  is  money.  It  is 
needed  alike  by  the  merchants,  farmers,  and  laborers.  The  demand 
is  for  more  money,  and  of  course  it  should  be  of  the  best. 

Money  is  power,  and  so  acknowledged  the  world  over.  It  is  the 
force  that  underlies  our  civilization  and  pushes  it  to  the  greatest  pos- 
sible activity.  Money  impels  the  merchant  to  his  most  venturesome 
daring,  the  mechanic  to  exploiting  his  most  inventive  genius,  the 
farmer  to  endure  the  summer's  heat  and  the  winter's  cold,  and  the 
toiler  in  every  direction  to  the  accompUshment  of  the  most  earnest 
effort  for  success.  The  power  of  money  and  the  hope  of  its  attain- 
ment is  the  incentive  to  nearly  all  humanity's  most  earnest  and  most 
honorable  exertion. 

What,  then,  is  money  and  what  are  its  uses  ?  It  may  be  stated 
in  general  that  money  is  crystallized  labor,  labor  accumulated  and 
massed,  and  when  so  accumulated  and  massed  it  has  the  power  of 

'  Adapted  from  a  speech  in  tlie  House  of  Representatives,  June  6,  1890, 
Congressional  Record,  XXI,  Appendix  A,  p.  347. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  17 

labor,  or,  in  other  words,  money  is  a  medium  of  exchange  created  b\- 
law  b}'  which  the  value  of  all  commodities  produced  by  labor  is 
represented  and  exchanged.  Labor  creates  wealth  and  money  repre- 
sents labor,  but  the  value  of  money  must  be  fixed  by  law. 

I  will  repeat  that  nearly  all  wealth  is  produced  by  labor,  and  the 
laborers  would  possess  it  if  something  did  not  exist  to  prevent  this 
natural  result.  In  this  country,  where  the  reward  of  labor  is  greater 
than  in  any  other,  some  cause  is  operating  with  continued  and  growing 
effect  to  separate  production  from  the  producer.  It  is  admitted  on 
every  hand  that  we  are  the  most  powerful  country  on  earth;  no 
ancient  or  modern  empire  can  compare  with  our  Republic  in  resources 
or  extent.  It  is  occupied  by  65,000,000  of  bright,  brave,  free,  intelli- 
gent, industrious,  and  energetic  people.  It  is  filled  with  the  natural 
resources  of  every  zone:  gold,  and  silver,  and  copper,  and  lead,  and 
iron  from  the  mountains;  cattle  and  sheep  from  the  plains;  cotton 
from  the  South;  corn  and  wheat  from  the  West. 

Our  farmers  ought  to  be  the  most  happy  and  prosperous  in  the 
world,  as  they  under  the  circumstances  ought  to  be  the  wealthiest. 
But  do  the  people  share  in  this  bounty  ?  Are  the  laborers  of  the  land 
satisfied  with  existing  conditions  ?  Are  they  free  from  apprehension 
of  the  future?  Does  the  farmer  find  his  brow  unfurrowed  by  the 
plow  of  care  ?  Are  the  highways  free  from  tramps  and  the  poor- 
houses  and  prisons  tenantless  ?  Is  the  tax-collector  driven  from  the 
door  and  want  from  the  home?  Alas!  no;  and  what  is  the  reason  ? 
Mr.  Speaker,  the  wrong  is  evident,  and  as  a  plain  business  man  I 
wish  to  trace  what  I  believe  to  be  the  cause  to  its  proper  source. 

The  figures  show  that  there  should  be  $21.75  P^^  capita  in  circu- 
lation, and  this  may  be  true,  averaging  the  whole  country  over,  but  as 
a  matter  of  fact  there  is  not  $10  per  capita  in  circulation  in  the  West, 
and  I  think  that  amount  much  too  small. 

Why  is  this  ?  Has  anyone  ever  observed  an}-  calamity  resulting 
from  the  circulation  of  too  much  money?  Is  there  any  locality  or 
era  where  there  was  too  great  activity  among  the  producing  classes  ? 
I  never  knew  or  read  of  any  country  where  there  were  too  many 
houses  in  process  of  erection,  or  too  plentiful  raiment,  or  too  abundant 
food,  nor  where  transportation  of  products  was  too  cheap  and  rapid. 
Does  anyone  recognize  high  prices  of  labor  as  leading  to  disastrous 
results  anywhere  ?  I  presume  no  one  would  question  the  fact  that  if 
we  had  more  money  now  in  circulation  among  the  people  we  would 
have  much  better  times.     Who,  then,  is  to  blame  for  the  scarcity  of 


l8  PRINCIPLES  OF  MONEY  ANI>  IJANKINC; 

money?  Clearly  Congress;  and,  if  so,  ihe  Repuhliam  party,  for  the 
Democratic  party  has  not  had  full  charge  of  the  Government  for 
many  years. 

The  market  prices  of  land,  of  labor,  and  of  commodities  are 
regulated  by  the  amount  of  money  in  circulation.  When  money  is 
plentiful  prices  advance,  and  when  money  is  scarce  prices  recede. 
The  leading  economic  thinkers  of  the  nineteenth  century  agree  that 
a  decrease  in  the  quantity  will  always  cause  the  wages  of  labor  and 
the  prices  of  land  and  all  commodities  to  sink  in  proportion. 

The  law  which  experience  has  graven  upon  the  tablets  of  time 
is  that  values  must  be  measured  by  money  and  money  must  be 
measured  by  its  own  quantity  in  relation  to  values. 

John  Stuart  Mill,  the  greatest  economic  thinker  of  Europe,  says: 
"If  the  whole  money  in  circulation  was  doubled,  the  prices  would 
double.  If  it  was  only  increased  one-fourth,  prices  would  rise  one- 
fourth." 

One  of  the  greatest  American  writers  on  this  subject  has  said: 
"The  truth  is  that  the  most  enormous  power  ever  known  to  man  or 
that  ever  can  be  his  lies  in  money,  in  the  increase  or  decrease  of  its 
quantity."  Mr.  Speaker,  I  could  furnish  a  hundred  or  more  of  such 
testimonials  if  I  had  the  time;  but  it  is  wholly  unnecessary,  as  every 
man  who  has  been  in  business  for  the  last  twenty-five  years  is  a 
witness  for  himself;  and  if  he  will  divest  himself  of  prejudice  he  will 
admit  the  truth  of  all  I  say. 

(2)    MONEY  AND  THE  REGULATION  OF  TRADE 

12.    POVERTY  AND  THE  EXPORT  OF  PRECIOUS  METALS« 
By  martin  LUTHER 

Foreign  merchandise  which  brings  from  Calicut  and  India,  and  the 
like  places,  wares  such  as  precious  silks,  and  jewels,  and  spices,  which 
serve  only  love  of  show  and  no  useful  purpose,  and  drain  the  land  and 
people  of  their  money,  should  not  be  permitted.  But  I  do  not  pro- 
pose now  to  speak  of  these  things;  for  I  think  that  these  things  will 
needs  be  dropped  of  themselves  finally  when  our  money  is  all  gone, 
as  well  as  the  display  and  gluttony;  indeed,  no  writing  or  teaching 
else  will  do  any  good  until  need  and  poverty  force  us. 

'Adapted  from  an  essay  On  Trade  and  Usury  (1524).  Printed  in  The  Open 
Court,  XI,  pp,  17-18.    The  Open  Court  Publishing  Company. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  19 

God  has  brought  us  Germans  to  that  pitch  that  we  must  needs 
scatter  our  gold  and  silver  into  foreign  lands,  and  make  all  the  world 
rich  and  ourselves  remain  beggars.  England  would  indeed  have  less 
gold  if  Germany  left  her  her  cloth;  and  the  king  of  Portugal  also 
would  have  less,  if  we  left  him  his  spices.  Reckon  thou  how  much 
money  is  taken  out  of  German  land  without  need  or  cause  in  one 
Frankfort  fair,  then  wilt  thou  wonder  how  it  comes  that  there  is 
a  penny  left  in  Germany.  Frankfort  is  the  silver-and-gold  hole 
through  which  everything  that  sprouts  and  grows  among  us,  or  is 
coined  and  stamped,  runs  out  of  German  lands.  If  this  hole  were 
stopped,  we  perchance  would  not  hear  the  complaint  how  on  all  hands 
there  is  nought  but  debts  and  no  money,  and  all  provinces  and  cities 
are  burdened  and  exhausted  by  interest-paying. 

13.    THE  ADVANTAGE  OF  A  FAVORABLE  TRADE 
BALANCE' 

By  JOSIAH  TUCKER 

In  foreign  trade,  if  one  nation  pays  the  other  a  quantity  of  gold 
or  silver  over  and  above  its  property  of  other  kinds,  this  is  called  a 
balance  against  that  nation  in  favour  of  the  other.  And  the  science 
of  gainful  commerce  principally  consists  in  the  bringing  this  single 
point  to  bear.  Now  there  can  be  but  one  general  method  for  putting 
it  in  practice ;  and  that  is,  since  gold  and  silver  are  become  the  common 
measure  for  computing  the  value  and  regulating  the  price  of  the  com- 
modities or  manufactures  of  both  countries,  to  export  larger  quantities 
of  our  own,  and  import  less  of  theirs,  so  that  what  is  wanting  in  the 
value  of  their  merchandise,  compared  with  ours,  may  be  paid  in  gold 
and  silver.  The  consequence  of  which  will  be  that  these  metals  will 
be  continually  increasing  with  us,  as  far  as  relates  to  that  particular 
trade  and  nation,  and  decreasing  with  them.  And  in  what  proportion 
soever  their  money  comes  into  our  country,  in  that  proportion  it  may 
truly  be  affirmed  that  our  sailors,  freighters,  merchants,  tradesmen, 
manufacturers,  tenants,  landlords,  duties,  taxes,  excises,  &c.  arc  paid 
at  their  expense. 

Or  to  put  the  matter  in  another  light:  when  two  countries  are 
exchanging  their  produce  or  manufactures  with  each  other,  that  nation 
which  has  the  greatest  number  employed  in  this  reciprocal  trade,  is 

'  Adapted  from  .1  Brief  Essay  on  Trade.  (London,  1753.)  Reprinted  in  Select 
Tracts  on  Commerce. 


20  PRINCIPLES  OF  MONEY  AND  BANKING 

said  to  receive  a  balance  from  the  other;  because  the  price  of  the 
overplus  labour  must  be  paid  in  gold  and  silver.  For  example;  if 
there  are  only  ten  thousand  persons  employed  in  England  in  making 
goods  or  raising  some  kind  of  produce  for  the  market  of  France, 
and  forty  thousand  in  France  for  the  market  of  England, — then  we 
must  pay  these  additional  30,000  Frenchmen  in  gold  and  silver;  that 
is,  be  at  the  charge  of  maintaining  them. 

14.    MERCANTILISM  IN  1870' 
By  BONAMY  price 

Let  us  take  up  the  newspapers  of  today.  Read  the  city  articles  of 
every  one  of  them.  Look  at  the  cast  of  thought,  at  the  style  of 
literature,  at  the  principles  proceeded  upon,  at  the  whole  spirit  of  the 
language.  What  is  thought  most  deserving  of  record  ?  The  sums 
of  gold  taken  to  the  Bank  of  England,  or  taken  away  from  it;  the 
amount  of  bullion;  the  vessels  laden  with  gold  on  their  passage  to 
England  from  California  and  Australia;  the  state  of  the  exchanges. 
The  beloved  phrase  of  the  mercantile  theory,  "favorable  exchanges," 
is  dwelt  upon  with  satisfaction;  unfavorable  exchanges,  and  the 
departure  of  gold  to  foreign  countries,  are  bemoaned  with  anxiety 
as  a  loss;  prognostications  are  made  of  a  languishing  or  flourishing 
trade,  according  to  the  influx  or  reflux  of  bullion;  and  weekly  returns 
are  proclaimed  of  ingots  buried  out  of  sight  in  the  cellars  of  the  Bank. 
The  doctrine  that  gold  is  wealth — the  doctrine  which  Mr.  Mill 
paints  as  an  absurdity  so  palpable  that  the  present  age  regards  it  as 
incredible,  as  a  crude  fancy  of  childhood — breathes  in  every  line  of 

the  city  articles  of  all  our  daily  newspapers What  is  this,  I 

ask,  but  the  mercantile  theory,  pure  and  fresh,  as  you  heard  Mr. 
Mill  describe  it?  What  is  it  but  the  resurrection  of  the  Practical 
Man — the  reassertion  of  himself,  of  his  experience,  his  appeal  to 
outward  form,  to  what  may  be  touched  and  handled  ?  The  world 
fondly  imagined  that  he  was  vanquished  and  gone;  that  Adam  Smith 
had  finally  disposed  of  him;  that  boys  and  students  had  learned  to 
pity  him,  and  to  pride  themselves  on  having  been  born  after  the  great 
Scotch  genius;  never  was  there  a  greater  mistake.  It  takes  many 
Adam  Smiths  in  Political  Economy  to  kill  off  forever  genuine  mercan- 
tile superstitions.  The  great  authority,  the  man  of  millions,  who  is 
supposed  to  understand  the  theory  of  business  precisely  because  he 

'  Quoted  from  Henrj'  V.  Poor,  Money,  Its  Laws  and  History,  p.  406. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  21 

has  made  millions,  revives  in  every  age.  The  mercantile  theory  may 
be  consigned  by  philosophers  to  the  Umbo  of  nursery  toys;  but  it 
lives  on  all  the  same,  is  master  of  the  mind  of  the  city,  is  supreme  over 
city  articles,  and  regulates  the  barometer  of  commercial  weather,  anfl, 
above  all,  is  held  to  know  the  great  secret  of  trade,  and  to  be  able  to 
show  men  the  way  to  get  rich. 

15.    THE  PRACTICAL  BUSINESS  VIEW  OF  \\E.\LTH' 
By  henry  V.  POOR 

Writings  such  as  those  of  Professor  Price  show  the  incoherent 
buffoonery  taught  in  the  name  of  Political  Economy  in  one  of  the 
first  universities  in  Christendom.  Where  are  her  purists,  that  they 
tolerate  within  her  sacred  precincts  a  fustian  rhetoric  to  be  matched 
only  by  that  of  Pistol  ? 

A  reader  of  the  Economists  cannot  fail  to  be  struck  with  the  hos- 
tility, not  to  say  hatred,  which  all  of  them  display  toward  merchants. 
Adam  Smith,  when  he  called  them  "sneaking  underlings,"  struck 
the  keynote  for  all  his  followers.  What  is  the  reason  of  this  hatred, 
with  a  sharper  tooth  even  than  that  of  the  odium  theologicum? — 
the  practice  of  treating  gold  as  wealth,  and  the  highest  form  of  wealth, 
in  the  very  face  of  the  teachings  of  the  Economists  that  it  is  not 
wealth;  or  that  it  is  the  lowest  form  of  wealth.  It  was  a  reflection  not 
to  be  tolerated.  Smith  did  his  best  to  sustain  his  theory  by  sneers  and 
flings  at  those  who  grew  rich  by  its  violation.  He  declared  them  to 
be  a  mean  and  selfish  race,  the  abettors  of  the  worst  forms  of  monopoly, 
and  the  disturbers  of  the  peace  of  the  world.  Price,  in  his  grotesque 
way,  attempts  to  paint  them  in  still  blacker  colors.  He  admits 
that  if  the  merchant,  if  the  universal  instinct  of  the  race,  is  to  be 
trusted,  the  teachings  of  Adam  Smith,  so  far  as  they  relate  to  money, 
are  shams;  that  one  of  the  two  must  go  to  the  wall.  The  only  refuge 
of  the  Economists  is  in  crying  that  the  science  has  been  overborne  by 
the  selfishness  of  men  of  affairs.  They  cannot  deny  that  these  grow 
rich  by  pursuing  methods  precisely  the  opposite  to  those  which  they 
lay  down.  The  man  of  millions  vaunts  his  methods;  and,  in  reply 
to  criticism  upon  them,  shakes  his  moneybags.  The  Economists 
fiercely  reply  that  truth  is  sacrificed  to  mammon;  but  if  it  be  the 
office  of  Political  Economy  to  teach  the  method  of  wealth,  why  has 

'Adapted  from  Money,  Its  Laws  and  History,  pp.  40O-8.  H.  V.  and  H.  W. 
Poor  (1877). 


22  PRINCIPLES  OF  MONEY  AND  BANKING 

not  the  man  of  millions  the  true  method;  and  what  need  of  going 
beyond  his  rules?  As  for  the  selfishness  of  the  race,  we  fear  that 
Political  Economists  have  no  prescription  for  its  cure. 

i6.    MERCANTILISM  TODAY' 
By  JOHN  CALLAN  O'LAUGHLIN 

The  great  war  has  not  crippled  American  commerce  as  was 
expected  when  it  began  last  August.  Statistics  show  that  during  the 
expiring  year  the  United  States  has  had  the  largest  balance  of  trade 
in  its  favor  that  it  ever  has  had.  The  balance  will  be  about  $i,ooo,- 
000,000.  Prior  to  the  present  fiscal  year  the  largest  trade  balance 
enjoyed  by  the  United  States  was  in  1908,  when  it  amounted  to 
$665,000,000.  While  there  has  naturally  been  more  falling  off  in 
imports  on  account  of  the  war,  the  great  gain  has  come  from  the 
tremendous  growth  of  exports.  Their  value  will  be  almost  $300,- 
000,000  over  the  figures  of  last  year,  and  practically  $200,000,000 
over  those  of  the  year  previous,  the  prize  year  in  exports.  This 
enormous  balance  of  trade  in  our  favor  is  very  gratifying  to  the 
American  people  and  the  American  government. 

17.    THE  PRESENT  GRATIFYING  SITUATION' 

The  treasury  statement  for  May  i  discloses  a  gratifying  condition 
of  our  circulating  medium  and  one  which  promises  great  strength  to 
meet  any  possible  emergency  of  the  near  future.  During  April  the 
national  bank  notes  in  the  hands  of  the  public,  including  the  emer- 
gency notes,  decreased  from  $842,615,970  to  $814,832,339,  while  the 
federal  reserve  notes  increased  from  $40,736,130  to  $53,749,860. 
On  the  first  of  April  the  gold  coin  in  circulation — which  includes  gold 
held  by  the  banks  as  reserve  and  other  gold  that  has  been  placed  in 
the  hands  of  the  public  by  the  treasury — amounted  to  $614,632,850. 
On  the  first  of  May  this  amount  had  fallen  oflf  to  $598,931,706, 
but  of  gold  certificates,  representing  the  metal,  there  was  $951,205,229 
April  I  and  $987,447,729  May  i.  The  aggregate  of  these  totals  for 
each  of  the  months  represents  the  actual  amount  of  gold  in  circulation 
and  shows  an  increase  between  April  i  and  May  i  of  $20,541,356. 
This  gain  is  largely  due  to  the  importations.  The  aggregate  of  these 
two  items,  gold  and  certificates  representing  gold.  May  i,  was  $1,586,- 

'  Adapted  from  the  Chicago  Record-Herald,  June  28,  1915. 

'  Adapted  from  an  editorial  in  the  Chicago  Economist,  May  15,  1915. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  23 

379>435>  standing  for  the  aggregate  of  gold  actually  used  as  money 
by  the  public.  The  total  amount  of  gold  used  as  money,  including 
bullion  in  the  treasury  of  the  United  States  at  that  time,  was  over 
$1,889,000,000.  This  amount  is  far  in  e.xcess  of  that  held  by  any 
other  country  for  the  purpose,  and  is  a  tremendously  strong  basis 
for  future  financial  operations.  How  far  we  have  gone  in  the  right 
direction  since  the  resumption  of  specie  payments  January  i,  1879, 
is  shown  by  a  comparison  of  this  billion  and  a  half  of  gold  with  the 
$117,000,000  we  had  then. 

18.    PATRONIZE  HOME  INDUSTRY* 
By  WALTON  H.  HAMILTON 

"A  dollar  spent  in  Auburn  gives  you  another  chance  at  it;  but, 
if  it  is  spent  out  of  town,  it's  '  Good-bye  Alary.' " 

''Down  with  the  parcels  post.  No  more  diabolical  device  was 
ever  perfected  by  the  big  cities  for  stripping  the  small  towns  and 
country  districts  of  all  their  surplus  cash.  Yet  the  rich  mail-order 
houses  wax  fat  with  the  dollars  that  are  the  property  of  local  mer- 
chants." 

"If  I  were  mayor,  and  had  my  way,  I  would  place  a  fine  of  one 
hundred  dollars  on  every  man  who  ordered  goods  from  a  mail-order 
house." 

"The  individual  can  get  rich  only  by  selling  more  than  he  buys. 
Likewise  a  community  can  prosper  only  by  selling  to  other  com- 
munities more  than  it  buys  from  them," 

"The  annual  influx  of  students  and  other  outsiders  into  our  fruit 
belt  to  engage  in  fruit-picking  and  packing  is  an  abuse  that  should  be 
stopped  at  once.  These  people  consume  very  little,  saving  their 
money  to  take  back  to  Ann  Arbor,  Madison,  Champaign,  and  other 
places  from  which  they  come.  Thus,  while  making  large  sums  off 
us,  they  give  little  or  nothing  in  support  of  our  industries." 

"The  county  commissioners  should  be  promptly  impeached  and 
removed  from  office  for  their  action  last  Monday.  We  understand 
that  the  contract  for  the  building  of  the  new  courthouse  was  let 
to  the  Knoxville  firm  only  because  their  bid  was  Si,Soo  under  that  of 
our  fellow-citizen,  James  R.  Robertson.  Robertson,  as  we  are  all 
aware,  is  an  expert  at  this  line  of  work,  and  was  well  equipped  to  do  a 

'  Adapted  from  Current  luonomic  Problems,  pp.  284-87.  (The  Uni\crsity  of 
Chicago  Press,  1915.) 


24  PRINCIPLES  OF  MONEY  AND  BANKING 

handsome  job.  The  only  excuse  which  ihe  commissioners  give  is  the 
$i,8oo.  But,  against  this  must  be  set  down  the  $32,000  which  will 
be  paid  to  the  Knoxville  gang.  Think  of  it!  Sending  $32,000 
out  of  town  to  save  a  paltry  $i,<Soo." 

"'Now  look  here.  Doc,'  said  the  dollar  to  the  dentist,  'if  you'll 
only  let  rae  stay  in  this  town,  and  won't  send  me  to  Roars,  Sawbuck 
&  Co.'s  in  Chicago  for  that  shaving-mug,  I'll  circulate  around  and  do 
you  lots  of  good.  You  buy  a  big  beefsteak  with  me,  and  the  dry 
goods  merchant  will  pay  his  doctor's  bill  with  me,  and  the  doctor 
will  give  me  to  the  farmer  for  oats  with  which  to  feed  his  horse,  and  the 
farmer  will  buy  fresh  beef  from  the  butcher,  and  the  butcher  will 
come  around  to  you  to  get  his  tooth  mended.  In  the  long  run  you 
see  I  will  be  more  useful  to  you  here  at  home  than  if  j^ou  send  me  away 
forever.'" 

"The  recent  cold  spell,  which  caused  a  large  number  of  water 
pipes  to  burst,  has  been  a  bonanza  for  business.  Few  things  in  the 
last  year  have  caused  so  many  people  to  dig  down  in  their  jeans 
and  cough  up  the  cartwheels  that  spell  prosperity." 


(3)    THE  CONFUSION  INVOLVED 

19.     WHENCE  THE  COMPLAINT  OF  THE  WANT  OF  MONEY  ?' 
By  JOSEPH  HARRIS 

The  want  of  money  is  a  common  cry.  All  the  scramble  is  for 
money;  few  think  they  have  enough,  and  many  complain.  This 
probably  will  ever  be  the  case,  nor  would  setting  the  mint  to  work 
cure  the  evil;  and  perhaps  there  is  nowhere  more  want  than  where 
there  is  most  money.  The  beggar  hath  no  property,  nothing  to 
exchange  for  money;  and  if  he  will  not  work,  none  would  come  to  his 
share,  if  the  common  stock  was  ever  so  much  increased;  a  greater 
plenty  of  money  would  be  so  far  from  being  advantageous  to  him 
that  he  would  run  the  greater  risk  of  starving,  as  bread  and  provisions 
of  all  sorts  would  then  be  so  much  the  dearer.  The  farmer  com- 
plains, and  thinks  that  if  there  was  more  money  in  the  country  his 
corn  and  cattle  would  fetch  a  better  price:  They  would  fetch  more 
money,  but  not  more  of  anything  else  that  he  wants;  and  he  would 
not  be  at  all  bettered  by  this  higher  price,  unless  so  far  as  a  sudden 

'  Adapted  from  An  Essay  on  Money  and  Coins  (1757).  Reprinted  in  Select 
Tracts  on  Currency,  pp.  413-14. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  25 

increase  of  money  might  ease  him  in  his  rent,  by  lessening  the  intrinsic 
value  of  the  specific  sum  which  he  had  agreed  to  pay.  The  same 
may  be  said  to  the  merchant,  shopkeeper,  &c.  While  all  commodities 
keep  the  same  proportion  of  value  in  respect  to  one  another,  no  one 
reaps  any  advantage  by  the  raising  of  the  price  in  respect  of  money, 
of  his  particular  commodity.  The  complaints  of  particular  persons 
arise,  not  from  a  deficiency  of  money,  of  counters  in  circulation;  but 
from  their  own  want  of  property,  want  of  skill,  address,  or  opportunity 
of  getting  more  money;  or  perhaps  only  for  want  of  frugality,  in 
spending  more  than  their  income  or  proper  share. 

20.     MONEY  AND  \VE.\LTH' 
By  JOHN  WITHERSPOON 

There  are  many  persons  who  cry,  "We  must  have  more  paper 
for  a  circulating  medium,  as  there  is  such  a  scarcity  of  gold  and  silver." 
It  is  argued,  "When  I  go  about  from  day  to  day,  and  cannot  collect 
what  is  due  me,  when  my  creditors  are  calling  upon  me  and  I  cannot 
satisfy  them,  is  not  the  only  explanation  the  scarcity  of  money 
everywhere  ?  "  What  shall  be  said  to  satisfy  these  persons  ?  I  must 
tell  them  plainly,  it  is  their  poverty,  or  the  nation's  poverty  and  not 
a  want  of  gold  and  silver,  and  if  there  were  an  hundred  times  as  much 
gold  and  silver  in  circulation  as  there  is,  their  poverty  and  difficulties 
would  be  just  the  same.  If  these  persons  read  the  scriptures  they 
may  there  learn  that  in  Solomon's  time  the  silver  was  plentiful  as 
stones  in  Jerusalem;  probably  they  will  think  that  all  the  people  in 
Jerusalem  at  that  time  must  have  lived  like  princes,  but  they  must  be 
told,  it  was  added  as  a  necessary  consequence  that  it  was  nothing 
accounted  of  in  the  days  of  Solomon. 

21.    A  REFUTATION' 
By  BENJAMIN  FRANKLIN 

As  to  plenty  of  money  being  a  benefit  to  trade  and  manufactures, 
we  apprehend  everyone  conversant  therein  must  know  that  the  coin, 
by  which  we  generally  understand  money,  of  every  respective  state, 
is  by  no  means  the  mover  of  the  intercourse  or  tradings  of  the  world  in 
general.     We  may  say  that  coins,  in  general,  can  no  otherwise  be 

'  Adapted  from  Works,  IV,  230.     (Philadelphia:  William  W.  Woodward,  1802.) 
'  Adapted  from  The  Principles  of  Trade  (1774),  in  Franklin's  Works,  II,  394-95. 
Written  jointly  and  anonymously  by  Franklin  and  George  Whatley. 


26  PRINCIPLES  OF  MONEY  AND  BANKING 

useful  than  as  the  common  measure  between  man  and  man,  as  serving 
to  barter  against,  or  exchange  for,  all  kinds  of  commodities.  Certain 
it  is,  that  coins  cannot  be  ranked  amongst  those  which  are  only  oj  real 
use.  Let  us  therefore  suppose  pieces  of  coin  to  be  counters,  and,  to 
simplify  the  matter  still  more,  suppose  every  manufacturer  to  have 
of  these  counters  any  sum  whatever;  will  it  follow  that  any  sort  of 
manufacture  shall  be  industriously  attended  to,  or  more  work  done 
than  when  no  more  counters  than  just  enough  to  barter  for  the  real 
wants  of  meat,  drink,  and  clothes,  etc.,  can  be  procured  by  labor  ? 
Surely  no.  It  must  be  the  desire  of  supplying  our  wants,  which 
excites  industry  as  above  hinted;  that  alone  sets  trade  going,  and 
that  only  can  procure  plenty  of  manufactures. 

That  the  welfare  of  any  state  depends  upon  its  keeping  all  its  gold 
and  silver,  either  in  bullion  or  in  coin,  must  be  founded  on  a  very 
narrow  principle  indeed.  All  repubhcs  we  know  of  wisely  think 
otherwise.  Spain,  the  grand  source  of  silver,  has  of  late  years  very 
justly  allowed  the  free  exportation  of  it,  silver  paying  a  duty,  as  in 
Great  Britain  lead  and  tin  do;  nor  prior  to  this  permission  could  the 
penal  laws  in  Spain  hinder  its  being  exported;  for  it  was  a  commodity 
which  that  kingdom  was  under  a  necessity  of  giving  as  an  equivalent 
for  what  was  furnished  to  them  by  other  countries. 

Could  Spain  and  Portugal  have  succeeded  in  executing  their  foohsh 
laws  of  "hedging  in  the  cuckoo,"  as  Locke  called  it,  and  have  kept  at 
home  all  their  gold  and  silver,  those  metals  would,  by  this  time, 
have  been  of  little  more  value  than  so  much  lead  or  iron.  Their  plenty 
would  have  lessened  their  value.     We  see  the  folly  of  these  edicts. 

2  2.    A  PRACTICAL  BUSINESS  VIEW  TODAY' 

The  great  inflow  of  gold  to  the  United  States  at  the  present  time 
is  embarrassing.  This  country  does  not  need  gold  and  does  not  par- 
ticularly want  gold.  We  already  have  such  an  excess  of  the  metal,  and 
the  credit  conditions  and  money  rates  generally  are  so  easy,  that  we 
are  confronted  with  the  unusual  problem  of  not  knowing  just  how 
to  empjoy  our  unexpectedly  large  resources  in  this  particular  field. 
The  turnabout  from  the  conditions  of  last  fall  has  been  so  sudden 
and  so  radical  that  business  men  and  bankers  in  this  country  are  for 
the  moment  at  a  loss  to  know  just  how  to  act  under  present  circum- 
stances.    It  is  almost  like  an  individual  who,  having  struggled  along 

'  Adapted  from  an  editorial  in  Moody's  Magazine,  March,  1915. 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  27 

with  tremendous  liabilities  and  having  hung  on  the  edge  of  bankruptcy 
for  an  indefinite  period,  suddenly  finds  himself  burdened  with  an 
over-surplus  of  riches  and  with  such  a  large  amount  of  capital  to  set 
actively  at  work  that  his  new  problems  are  almost  as  difficult  to  handle 
as  were  those  in  his  former  condition. 

23.    MONEY  AND  THE  SUPPLY  OF  CAPITAL' 
By  CHARLES  J.  BULLOCK 

A  review  of  the  currency  history  of  America  reveals  the  following 
facts:  first,  that  a  strong  movement  in  favor  of  cheap  money  has 
existed  continuously  in  this  country  from  the  earliest  period  of  coloni- 
zation; and  secondly,  that  the  persistence  of  such  an  agitation  has 
been  due,  more  than  to  any  other  single  cause,  to  the  constant  spread 
of  settlements  westward  over  large  areas  that  have  long  remained 
thinly  populated.  With  the  growth  of  numbers,  the  rise  of  manu- 
facturing and  commercial  industries,  and  the  increase  of  wealth, 
the  desire  for  a  cheap  currency  has  gradually  diminished;  but  this 
has  no  sooner  taken  place  in  the  more  populous  states  than  the  old 
phenomena  have  reappeared  in  newly  settled  districts,  while  any 
localities  that  have  remained  sparsely  peopled  and  devoted  chiefly 
to  agricultural  pursuits  have  always  furnished  a  favorable  field  for  the 
old  propaganda. 

Back  of  all  the  strivings  for  an  inexpensive  medium  of  exchange, 
each  generation  of  our  people  has  always  heard  the  complaint  that 
our  supply  of  money  had  been  insufiicient;  and  this  cry  has  invariably 
furnished  an  unmistakable  indication  of  the  underlying  cause  of  the 
agitation.  "No  complaint,"  wrote  Adam  Smith,  in  1776,  "is  more 
common  than  that  of  a  scarcity  of  money.  Money,  Uke  wine,  must 
always  be  scarce  with  those  who  have  neither  wherewithal  to  buy  it, 
nor  credit  to  borrow  it.  Those  who  have  either,  will  seldom  be  in 
want  either  of  the  money  or  of  the  wine  which  they  have  occasion  for." 
In  the  United  States  an  enterprising  and  resolute  people  has  been 
engaged  for  nearly  three  centuries  in  occupying  and  developing  a 
vast  area  of  free  land.  While  natural  resources  abounded,  each 
newly  settled  district  has  always  experienced  a  lack  of  capital  needed 
to  bring  the  soil  under  cultivation,  to  supply  means  of  communica- 
tion, and  to  develop  manufacturing  enterprises.     This  want  might 

'  Adapted  irom  Essays  on  the  Monetary  History  of  the  United  Stales,  pp.  1-4. 
(The  Macmillan  Co.,  1900.) 


28  PRINCIPLES  OF  MONEY  AND  BANKING 

have  been  little  felt  by  a  less  progressive  people;  but  with  us  it  has 
been  a  real  and  serious  obstacle,  which  has  been  removed  only  by  the 
slow  growth  of  wealth  and  numbers.  In  order  to  possess  a  sufficient 
supply  of  metallic  money,  a  nation  must  convert  a  portion  of  its 
capital  into  a  stock  of  gold  and  silver  coins  or  bullion,  a  process  that 
is  expensive,  even  under  the  most  favorable  circumstances.  In  the 
United  States,  prior  to  the  discovery  of  mines  of  the  precious  metals, 
gold  and  silver  could  be  obtained  only  through  exchange  with  foreign 
countries;  and  the  acquirement  and  maintenance  of  an  abundant 
metallic  currency  was  made  especially  difficult  by  the  poverty  of  our 
people  in  all  sorts  of  capital.  The  difficulty  was  intensified  still  further 
by  the  sparseness  of  settlement  and  the  economic  isolation  of  house- 
holds and  communities,  a  circumstance  which  made  the  monetary 
circulation  sluggish  and  increased  the  volume  of  currency  required 
for  the  transaction  of  a  given  number  of  exchanges.  The  accumu- 
lated products  of  our  industry  were  more  often  converted  into  other 
things  than  money.  Each  person  usually  desired  to  employ  in  pro- 
duction or  exchange  whatever  gold  or  silver  might  come  to  him; 
for  he  had  many  uses  for  other  kinds  of  capital  and  could  ill  afford 
to  keep  on  hand  a  stock  of  money  that  appeared  to  be  an  idle  invest- 
ment. Therefore  it  happened  that  supplies  of  the  precious  metals 
secured  in  trade  tended  to  move  out  of  the  colonies  in  exchange  for 
other  things  that  were  felt  to  be  more  necessary. 

24.    IS  MONEY  A  SUPERIOR  KIND  OF  WEALTH  ?• 
By  CHARLES  GIDE 

The  popular  answer  to  this  question  admits  of  no  doubt.  At  all 
epochs  and  in  all  places,  except  among  savages,  money  has  occupied 
an  exceptional  place  in  the  thoughts  and  desires  of  men.  They  regard 
it,  if  not  as  the  only  wealth,  at  any  rate  by  far  the  most  important 
wealth.  Indeed,  they  appear  to  measure  the  value  of  all  other  wealth 
by  the  quantity  of  money  that  can  be  contained  in  exchange  for  it. 
To  be  rich  is  to  possess  either  a  large  amount  of  money  or  the  means 
of  obtaining  it  in  exchange  for  other  goods. 

But  if  we  ask  the  economists  whether  or  not  money  is  a  superior 
kind  of  wealth,  the  answer  will  be  entirely  different  from  the  popular 
opinion.  In  fact  the  first  impetus  to  the  growth  of  a  scientific 
political  economy  was  the  protest  against  the  popular  conception  of 

'  Adapted  from  Principles  of  Political  Economy  (\'editz'  translation  and 
adaptation),  pp.  219-22.     (London:  D.  C.  Heath  &  Co.) 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  29 

money,  regarded  by  the  earlier  economists  as  a  mere  prejudice. 
The  science  had  scarcely  been  founded  when  Boisguillebert,  in  1698, 
declared,  "It  is  quite  certain  that  money  is  not  a  good  of  itself, 
and  that  its  quantity  has  nothing  to  do  with  the  opulence  of  a  country.'" 
Since  then  the  economists  have  shown  Httle  concern  about  the  amount 
of  money  and  maintained  that  it  is  a  commodity  like  all  other  com- 
modities, and  even  inferior  to  others  because  it  is  in  itself  incapable 
of  satisfying  any  want  directly,  or  of  affording  any  pleasure.  It  is 
consequently  the  only  commodity  of  which  we  may  say  that  its 
abundance  or  scarcity  is  a  matter  of  perfect  indifference.  If  there 
are  few  pieces  of  money  in  a  country,  each  one  will  have  a  greater 
purchasing  power;  if  there  are  many,  the  purchasing  power  of  each 
will  be  smaller.     So  what  does  the  quantity  matter  ? 

These  two  opinions,  however  contradictory  they  seem,  may  easily 
be  reconciled.  The  public  is  right  from  the  individual  point  of  view — 
the  only  one  which  interests  it;  economists  are  right  from  the  general 
or  social  point  of  view.  The  distinction  here  involved  requires  some 
explanation. 

Every  piece  of  money  must  be  regarded  as  a  ticket  or  order 
drawn  on  the  sum  total  of  existing  wealth,  gi\'ing  the  bearer  the  right 
to  claim  a  part  of  this  wealth  not  exceeding  the  value  indicated  on  the 
coin.  It  is  clearly  our  individual  interest  to  possess  as  many  of  these 
"orders"  as  possible;  the  more  we  have  the  richer  we  are.  We 
know  very  well  that,  in  themselves,  these  "orders"  can  neither  satisfy 
hunger  nor  slake  thirst.  Long  before  economists  had  pointed  out 
this  truth,  legend  taught  the  same  principle  in  the  tale  of  King 
Midas,  who  died  in  hunger  although  surrounded  by  wealth  which  his 
own  folly  turned  into  gold.  Nevertheless,  we  regard  these  "orders" 
as  far  more  convenient  than  any  other  kind  of  wealth,  and  we  are  right 
in  doing  so. 

Given  the  present  organization  of  society,  the  person  who  desires 
to  obtain  an  object  that  he  has  not  produced  (and  the  immense 
majority  of  people  are  thus  situated)  can  get  it  only  by  means  of  two 
operations:  first,  by  exchanging  the  product  of  his  labor,  or  his  labor 
itself,  for  money;  second,  by  exchanging  this  money  for  the  object 
desired.  These  two  operations  are  called  selling  and  buying.  The 
second  of  them,  purchase,  is  very  simple;  by  means  of  money  a 
desired  object  may  easily  be  olitained.  'J1ie  first  process,  sale,  is 
much  more  difficult ;  an  object,  even  of  great  value,  cannot  at  all  times 
be  readily  exchanged  for  money.  Hence  the  possessor  of  money 
occupies  a  more  favorable  position  than  the  j^ossessor  of  any  other 


30  PRINCIPLES  OF  MONEY  AND  BANKING 

commodity;  in  order  to  satisfy  his  wants  he  has  but  one  operation  to 
perform,  and  this  operation  is  an  easy  one.  The  possessor  of  any 
other  kind  of  goods  must  accompUsh  two  operations,  one  of  which 
is  comparatively  difficult.  It  has  been  well  said  that  a  particular 
commodity  corresponds  only  to  a  special  and  determinate  want,  while 
money  corresponds  to  any  indeterminate  and  universal  want.  The 
owner  of  a  very  useful  commodity  may  not  know  what  to  do  with  it. 
The  possessor  of  money,  on  the  other  hand,  is  never  thus  embarrassed; 
he  is  always  able  to  find  someone  to  accept  it,  and  if  by  chance  he  is  at 
a  loss  how  to  make  use  of  it  at  once,  he  still  has  the  simple  expedient 
of  keeping  it  for  a  more  favorable  opportunity.  With  other  com- 
modities this  expedient  is  not  always  possible. 

But  if,  instead  of  considering  the  position  of  an  individual,  we 
regard  the  whole  mass  of  individuals  constituting  society,  the  point 
of  view  changes  and  the  economists'  thesis  (that  the  amount  of 
money  in  a  country  is  a  matter  of  indifference)  is  more  correct.  Little 
do  I  care  for  a  tenfold  increase  in  the  amount  of  money  in  my  posses- 
sion if  the  same  increase  takes  place  for  all  the  other  members  of 
society.  For  in  such  an  event  I  should  be  no  richer  than  before; 
since  wealth  is  purely  relative,  I  should  not  be  able  to  obtain  a  larger 
amount  of  goods.  The  sum  total  of  wealth  out  of  which  our  claims 
or  "orders"  are  paid  would  be  no  greater  than  before,  and  each 
"order,"  i.e.,  each  piece  of  money,  would  entitle  me  to  a  share  only 
one-tenth  as  large.  In  other  words,  the  purchasing  power  of  each 
coin  would  be  one-tenth  as  great,  or,  all  prices  having  been  multipUed 
by  ten,  my  position  would  not  be  changed. 

25.    THE  SUPPLY  OF  STANDARD  MONEY  REQUIRED* 
By  LYMAN  J.  GAGE 

The  amount  of  standard  money  required  by  any  country  in  my 
opinion  cannot  be  definitely  stated.  One  can  only  reach  a  general 
estimate.  In  order  to  arrive  at  this  estimate  it  is  necessary  to  inquire 
into  the  various  uses  which  gold  serves. 

First,  it  is  practically  out  of  use  as  a  medium  of  exchange,  and 
the  demand  for  it  in  that  connection  need  not  be  considered  here. 
Second,  a  proper  supply  of  gold  is  indispensably  necessary  for  settle- 
ment of  balances  of  international  trade,  and  our  supply  should  be  large 
enough  to  permit  the  exportation  of  what  may  be  required  in  such 

•Adapted  from  "The  Sufficiency  of  Our  Present  Currency  System,"  Sound 
Currency,  X  (1903),  61-63. 


THE  PECUNIARY  ORGAXIZATION  OF  SOCIETY  31 

settlements  without  causing  serious  alarm  as  to  the  impairment  of 
our  remaining  stock.  Third,  gold  ser^^es  as  a  regulator  of  all  other 
forms  of  money,  including  the  vast  amount  of  credit  currency.  There 
must  therefore  be  a  proper  ratio  of  gold  reserve  to  the  various  forms 
of  credit  money  in  use.  What  is  a  proper  ratio  varies  according  to 
time  and  circumstances.  A  ratio  which  at  a  time  of  budding  pros- 
perity, of  reawakening  enterprise  and  full  confidence  in  the  future, 
would  be  abundant,  even  superfluous,  might  prove  to  be,  in  an  unfold- 
ing period  of  depression,  of  doubt,  distrust,  and  business  failures, 
dangerously  small.  But  as  a  general  proposition  the  quantity  of  gold 
is  not  a  matter  of  great  importance,  for  given  a  certain  quantity,  be 
that  quantity  great  or  small,  it  will  in  the  long  run  tend  to  relate 
or  establish  prices  of  things  and  wages  of  labor.  Multiplying  the 
prices  of  all  commodities,  labor,  and  services  by  ten  would  not  make 
anyone  richer.  Dividing  prices  would  not  make  anyone  poorer, 
since  once  established  the  exchange  ratios  of  commodities  and  the 
power  of  labor  to  purchase  goods  would  not  therefore  be  relatively 
changed.  It  is  true  that  a  sudden  change  in  prices,  either  in  one 
direction  or  the  other,  would  create  incidental  hardships,  because 
the  change  in  prices  could  not  in  the  nature  of  things  be  uniform  or 
simultaneous,  and  time  contracts  would  be  radically  affected. 

Were  I  to  put  in  a  single  paragraph  what  I  would  consider  the 
ideal  thing  on  this  question  of  standard  money,  gold,  it  might  be 
stated  after  this  manner:  A  given  quantity  of  gold,  to  which  the 
floating  volume  of  credit  and  the  prices  of  commodities  had,  through 
natural  laws,  operating  over  a  long  period  of  time,  become  normally 
related.  To  this  stock  of  gold,  gradual  but  not  sudden  accretion  is 
to  be  desired,  sufficient  to  bear  the  increasing  strain  of  an  increasing 
volume  of  trade,  an  increase  large  enough  to  keep  prices  on  a  general 
and  continuous  level. 

C.     The  Role  of  Money  in  Industrial  Society 

26.    THE  STANDARD  OF  DEFERRED  PAYMENTS  AND 
INDUSTRIAL  PROGRESS' 

By  VV.  CUNNINGHAM 

The  scarcity  of  the  precious  metals  in  Rome,  coupled  with  their 
fluctuating  value,  rendered  it  exceedingly  difficult  for  anyone  to 
save  wealth;  they  also  made  men  unwilling  to  risk  their  accumulations 

'Adapted  from  An  Essay  on  Weslern  Civil izalion  and  Its  Economic  Aspects, 
I,  186-87.     (Cambridge  University  Press,  1898.) 


32  rklNCll'LES  OF  MONEY  AND  BANKING 

in  business  of  any  kinrl,  and  to  use  it  as  capital.  The  complete  uncer- 
tainty in  regard  to  prices  paralyzed  trade,  and  capitalists  were  "in- 
duced to  hoard  their  coins  of  pure  gold  and  silver  for  better  days," 
which  never  came.  Industry  did  not  offer  a  tempting  field,  as  the 
entcrjjrising  man  of  business  would  often  have  to  face  the  competition 
of  a  manufactory  organized  by  the  State  and  controlled  by  officials 
whom  it  would  be  imprudent  to  oflend.  There  was  even  greater 
disinclination  to  use  capital  in  agriculture  and  apply  it  to  permanent 
improvements.  Accumulated  wealth  was  hoarded  rather  than 
invested,  and  general  decay  ensued;  money  and  circulating  capital 
are  not  necessary  for  the  maintenance  of  human  life,  but  they  were 
necessary  for  the  maintenance  of  a  civilized  society  like  the  Roman 
Empire.  Since  capital  was  not  available,  there  need  be  no  surprise 
that  labour  failed  to  find  employment  and  that  land  went  out  of 
cultivation;  these  again  are  the  very  circumstances  in  which  popula- 
tion would  necessarily  decline, 

27.     MONEY  AND  CAPITAL  ACCUMULATION 
By  WALTON  H.  HAMILTON 

One  of  the  most  important  services  generally  assigned  to  money 
is  the  encouragement  of  capital  accumulation.  This  function  is 
variously  attributed  to  money  as  a  medium  of  exchange,  to  money  as 
a  store  of  wealth,  and  to  money  as  a  measure  of  values.  Yet,  since 
in  even  a  non-exchange  society  some  economic  thought  is  taken  for 
the  morrow,  no  one  of  these  is  indispensable  to  capital  formation. 

As  a  medium  of  exchange  money  contributes  little  to  capital  forma- 
tion. A  farmer  may  live  upon  the  provisions  he  has  saved  while 
constructing  a  ditch  to  protect  his  crops.  He  may  exchange  these 
directly  for  the  labor  of  others  embodied  in  the  ditch ;  for  the  barter  sys- 
tem does  not  preclude  an  exchange  of  present  for  future  goods.  Even 
under  the  complex  conditions  of  today  a  monetary  medium  of  exchange 
is  unnecessary.  Savings  are  usually  deposited  in  banks  in  the  form  of 
"credit  instruments,"  each  possessing  a  certain  number  of  "units" 
of  value.  They  are  exchanged  for  certificates  of  ownership  of  pro- 
ductive wealth,  such  as  deposit  slips,  bonds,  and  stocks. 

The  emphasis  upon  money  as  a  storehouse  of  value  is  likewise 
erroneous.  True,  values  can  be  converted  into  money  which  its 
owner  can  hoard  until  he  is  ready  to  use  it.  But  in  such  case  the  use 
of  the  value  in  question  is  merely  postponed;  the  lack  of  an  increment 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  33 

in  value  sufficiently  attests  the  non-capitalistic  character  of  the 
operation.  Today  the  processes  of  accumulating  savings  and  pro- 
ducing technical  capital  goods  are  closely  synchronized.  Through 
savings  individuals  surrender  their  claims  to  wealth,  and  through  the 
instrumentality  of  "financial  middlemen"  these  claims  are  trans- 
ferred to  those  engaged  in  the  technical  production  of  capital  goods. 
Thus  in  general  there  is  no  time  interval  between  saving  and  pro- 
duction during  which  values  have  to  be  bottled  up  and  preserved. 

The  contribution  of  money  to  capital  formation  is  much  less 
direct.  It  inheres  in  the  nature  of  a  society  highly  organized  upon 
the  basis  of  a  "pecuniary  unit"  which  is  a  common  denominator  of 
values.  Some  of  the  more  important  aspects  of  this  contribution 
deserve  at  least  passing  notice. 

First,  calculations  on  the  basis  of  the  "pecuniary  unit''  are 
necessary  to  an  appreciation  of  future  values.  In  a  non-calculating 
society  few  future  values  will  stand  out.  There  is  no  way  of  measuring 
values  of  varying  degrees  of  futurity.  But  the  pecuniary  calculus 
easily  resolves  these.  Not  only  does  it  place  definite  values  upon 
future  goods,  but  it  estimates  with  considerable  accuracy  their 
cost.  Because  of  their  association  with  the  "roundabout"  method 
of  production,  the  latter  are  varied  and  numerous.  The  determina- 
tion of  their  values  is  further  complicated  by  such  technical  facts  as 
replacement,  depreciation,  and  obsolescence.  Consequently  an  accu- 
rate accounting  system,  based  upon  a  precise  unit,  is  necessary  to 
an  appraisal  of  the  costs  and  values  of  future  goods. 

Second,  a  pecuniary  calculus  is  necessary  to  a  rational  comparison 
of  present  and  future  values.  Such  an  instrument  enables  future, 
as  well  as  present,  needs  to  be  translated  into  "prices,"  in  which 
form  both  can,  in  competition,  make  their  appeals  to  the  economic 
motives  of  man.  The  whole  aggregate  of  uses,  present  and  future,  to 
which  goods  can  be  put  is  reduced  to  an  intelligible  scheme.  Thus 
rational  thought  can  be  taken  both  for  today  and  for  tomorrow. 

Third,  accumulation  and  production  of  capital  goods  are  organized, 
as  aggregates,  into  a  comprehensive  system.  Under  a  non-e.\change 
system  many,  lacking  means,  will  wish  to  invest;  others,  having 
means,  will  lack  opportunity  for  investment.  But  the  system  pro- 
vides no  instrument  for  bringing  accumulations  and  opportunities 
together.  But  under  the  pecuniary  system  the  processes  of  saving 
and  technical  investment  arc  separated.  The  uses  to  which  capital 
can  be  put  are  gathered  together  into  a  nicely  arranged  scheme. 


34  PRINCIPLES  OF  MONEY  AND  BANKING 

Likewise,  potential  savings  are  aggregated  into  a  similar  scheme. 
Through  conifjetition  the  two  aggregates  are  brought  into  harmony 
at  a  "price"  or  a  "rate  of  interest." 

Fourth,  the  pecuniary  calculus  makes  possible  an  intricate  mech- 
anism which  brings  savings  and  investments  into  a  nicer  adjustment. 
There  is  created  a  complex  structure  of  savings  and  investment  banks, 
trust  and  mortgage  companies,  insurance  associations,  investment 
companies,  and  underwriting  syndicates,  which  together  bridge  the 
gulf  separating  the  two.  By  splitting  up  investments  into  shares 
of  various  sizes  these  companies  are  enabled  to  offer  to  each  capitalist 
an  investment  equal  to  his  savings.  By  issuing  different  kinds  of 
"securities"  they  are  able  to  offer  risks  compatible  with  the  romance 
in  varying  temperaments.  In  like  manner,  by  aggregating  or  divid- 
ing individual  savings,  they  can  furnish  capital  in  amounts  exact 
enough  to  meet  the  needs  of  any  productive  venture.  They  can  also, 
on  varying  conditions,  supply  funds  to  meet  any  reasonable  risk. 
Thus  saving  and  investment  are  alike  encouraged  by  the  nicest  kind 
of  adjustment  between  the  two  processes  essential  to  the  formation 
of  capital. 

In  these  several  ways  an  organization  of  society,  based  upon  the 
"pecuniary  unit,"  furnishes  both  the  incentives  and  the  means  for 
capital  formation. 

28.    MONEY  AND  BUSINESS  ORGANIZATION' 
By  THORSTEIN  VEBLEN 

Economists  are  in  the  habit  of  speaking  of  money  as  a  medium 
of  exchange,  a  "great  wheel"  for  the  circulation  of  goods.  It  may  be 
true  in  some  profound  philosophical  sense  that  money  values  are 
not  the  definitive  term  of  business  endeavor,  and  that  the  business 
man  seeks  through  the  mediation  of  money  to  satisfy  his  craving  for 
consimaable  goods.  Looking  at  the  process  of  economic  life  as  a 
whole  and  taking  it  in  its  rationalized  bearing  as  a  collective  endeavor 
to  purvey  goods  and  services  for  the  needs  of  collective  humanity,  the 
oflSce  of  the  money  vmit  is  perhaps  rated  as  something  subsidiar}',  serv- 
ing to  facilitate  the  distribution  of  consumable  goods  to  the  consumers, 
the  consumption  of  goods  being  the  objective  point  of  all  this  traffic. 
Within  the  range  of  business  transactions,  however,   this  ulterior 

'  Adapted  from  The  Theory  of  Business  Euter prise,  pp.  83-85.  (Charles 
Scribner's  Sons,  1910.) 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  35 

end  does  not  necessarily  come  into  view,  at  least  not  as  a  motive 
that  guides  the  transactions  from  day  to  day.  The  matter  is  not  so 
conceived  in  business  transactions,  it  does  not  so  appear  on  the  face 
of  the  negotiable  instruments,  it  is  not  in  this  manner  that  the  money 
unit  enters  into  the  ruling  habits  of  thought  of  business  men. 

The  all-dominating  issue  in  business  is  the  question  of  gain  and 
loss.  Gain  and  loss  is  a  question  of  accounting,  and  the  accounts  are 
kept  in  terms  of  the  money  unit,  not  in  terms  of  livelihood,  nor  in 
terms  of  the  serviceabiUty  of  the  goods,  nor  in  terms  of  the  mechanical 
efficiency  of  the  industrial  or  commercial  plant.  For  business  purposes, 
and  so  far  as  the  business  man  habitually  looks  into  the  matter,  the 
last  term  of  all  transactions  is  their  outcome  in  money  values.  The 
base  line  of  every  enterprise  is  a  line  of  capitalization  in  money 
values.  In  current  business  practice  variations  from  this  base  line 
are  necessarily  rated  as  variations  on  the  part  of  other  factors  in  the 
case,  not  as  variations  of  the  base  line.  The  business  man  judges 
of  events  from  the  standpoint  of  ownership,  and  ownership  runs  in 
terms  of  money. 

29.    ]\IONEY  AND  ECONOMIC  ACTIVITY' 
By  WESLEY  C.  MITCHELL 

Writers  upon  money  usually  state  that  it  performs  three  functions, 
serving  as  a  common  denominator  of  value,  a  medium  of  exchange, 
and  a  standard  of  deferred  payments.  To  enumerate  the  functions 
of  money  in  this  fashion,  however,  is  very  far  from  suggesting  the 
importance  of  the  role  which  money  plays  in  economic  life.  To 
understand  this  role  attention  must  be  fixed  upon  the  complex 
mechanism  of  prices,  rather  than  upon  money  itself.  I  may  give 
here  but  a  brief  statement  of  the  relations  between  prices  and  funda- 
mental economic  processes. 

From  the  point  of  view  of  the  men  who  direct  it,  the  production  of 
wealth  is  nowadays  a  business  process  of  selling  goods  for  more  than 
they  have  cost  and  is  conducted  for  the  sake  of  getting  money  profits. 
The  technical  processes  involved  in  various  departments  of  business, 
farming,  manufacturing,  transportation,  and  commerce  are,  in  the 
eyes  of  the  business  men  who  direct  them,  simply  subordinate  parts 
of  this  business  process:  certain  of  the  steps  necessary  to  make  profits 

■  Adapted  from  Gold  Prices  and  Wages  under  the  Greenback  Standard  (iqoS), 
pp.  279-81,  University  of  California  Publications  in  Economics,  I. 


36  PRINCIPLES  OF  MONEY  AND  HANKING 

by  selling  at  prices  which  exceed  the  money  cost.  It  is  hardly  too 
much  to  say  that  from  the  standpoint  of  the  business  men  in  control 
the  production  of  wealth  is  simply  an  incidental  feature  in  the  business 
process  of  making  money. 

Alongside  these  business  enterprises  incidentally  concerned  with 
the  production,  manufacture,  and  distribution  of  material  goods 
stand  the  business  enterprises  concerned  with  finance:  banks,  trust 
companies,  stock  and  bond  houses — in  short,  the  whole  mechanism 
of  the  investment  and  money  markets.  These  enterprises,  like  the 
preceding  class,  are  conducted  for  the  sake  of  pecuniary  profits,  and 
their  profits  depend  on  selling  at  prices  higher  than  the  prices  paid. 
They  represent  the  highest  development  and  the  most  complex  adjust- 
ment of  the  whole  business  organization,  and  all  other  enterprises 
are  bound  to  them  by  the  various  forms  of  pecuniary  obligations. 

The  distribution  of  the  wealth  produced  by  enterprises  of  the 
first  sort,  supported  by  financial  aid  from  enterprises  of  the  second 
sort,  is  also  effected  by  means  of  prices.  Wages  is  the  price  paid  for 
labor,  interest  is  the  price  paid  for  the  use  of  loans,  rent  the  price 
paid  for  the  use  of  material  goods  which  must  be  returned  without 
substantial  deterioration,  and  profits  is  the  residue  of  the  aggregate 
prices  received  after  the  aggregate  prices  paid  for  the  factors  of  pro- 
duction, for  materials,  etc.,  have  been  deducted.  To  the  individual, 
indeed,  economic  welfare  depends  primarily  upon  the  money  income 
he  is  able  to  get  under  the  conditions  presented  by  the  price  system 
and  upon  the  aggregate  prices  which  he  must  pay  for  what  he  wishes 
to  consume.  Money  prices,  in  brief,  are  the  formal  basis  on  which 
the  economic  relations  of  individuals  in  modern  society  are  organized 
and  the  formal  mechanism  by  which  economic  processes  are  carried  on. 

30.    A  PECUNIARY  SOCIETY' 
By  H.  J.  DAVENPORT 

Modern  society  is  distinctly  a  pecuniary  society,  a  society  of 
business.  Despite  the  fact  that  society  was  not  always  pecuniary — 
has,  indeed,  been  so  only  for  the  narrowest  margin  of  years  out  of  a  long 
human  history,  and  may  remain  so  only  for  the  next  short  swing 
of  the  pendulum  in  the  life  of  man — the  political  economy  that  we 
must  study  today  is  the  political  economy  of  today.     Mainly,  under 

'  Adapted  from  The  Economics  of  Enterprise,  pp.  21-28.  (The  Macmillan 
Co.,  1913.) 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  37 

present  conditions,  we  produce  for  tiie  market,  for  exciiange,  despite 
the  fact  that  a  few  generations  ago  the  contrary  was  the  truth.  And 
at  present  we  produce  in  the  larger  part  for  a  competitive,  impersonal 
world-market.  This  is  the  era  of  free  individual  initiative  under 
private  property  for  private  gain.  So  far,  indeed,  is  this  the  truth  that 
even  combination  and  monopoly  may  be  regarded  as  merely  secondary 
aspects  of  competition  and  of  individual  initiative.  Strike  this 
fact  of  competition  at  its  very  center  of  tone,  and  we  discover  that 
we  are  in  a  regime  of  price.  Money  is  the  focusing  point  of  modern 
business  affairs.  It  is  the  standard  of  values  simply  because  in  a 
society  producing  for  exchange  it  is  the  one  established  intermediate 
commodity.  Therefore,  as  medium  of  exchange,  it  is  the  standard 
of  immediate  and  of  deferred  payments.  Through  credit  the  money 
economy  lays  hold  upon  even  the  distant  future.  Thus  to  object 
that  more  and  more,  as  society  has  advanced  from  a  society  of  isolated 
production  through  a  barter  economy  to  a  money  economy,  it  is  now 
moving  over  into  a  credit  economy,  is  really  to  assert  merely  that  in 
new  and  marvelous  ways  money  is  taking  on  a  still  greater  emphasis. 
More  and  more,  and  more  and  more  exclusivel}^  and  over  an  ever- 
widening  field  of  human  efifort,  human  interests  and  desires  and 
ambitions  fall  under  the  common  denominator  of  money.  Doubtless 
many  of  the  best  things  in  life  do  not  get  bought  and  sold.  Some  of 
them  are  not  exchangeable;  and  not  all  things  that  could  be  trans- 
ferred are  men  weak  enough  to  sell  or  other  men  strong  enough  to 
buy.  Not  every  man  has  his  money  price.  But  most  good  things  do, 
in  greater  or  less  degree,  submit  to  the  money  appraisal.  Health  is 
easier  for  him  who  can  take  his  ease  and  who  has  the  wherewithal  to 
pay  for  good  foods  and  medicines,  to  travel,  to  employ  good  nursing, 
and  to  command  capable  physicians  and  efficient  surgeons.  And,  in 
their  degree,  also,  love  and  pity  and  respect  and  place  are  bought  and 
sold  upon  the  market.  It  takes  a  goodly  number  of  dollars  to  get  a 
child  safely  born,  and  even  more  dollars  to  achieve  for  one's  self  a 
respectable  burial.  Much  money  is  power  over  many  things.  Money 
is  the  standard  of  value  in  the  sense  that  all  values  of  all  exchangeable 
things  are  expressed  in  terms  of  it.  And  this  holds,  not  only  of  all 
commodities  and  services,  but  of  all  incomes  and  of  all  capitals.  The 
capital  of  a  banking  house,  or  a  factory,  or  a  railroad  company,  is  not 
a  congeries  of  tangible  things,  but  a  pecuniary  magnitude — so  many 
dollars.  All  economic  comparisons  are  made  in  money  terms,  not  in 
terms  of  subsistence  or  of  beauty  or  of  artistic  merit  or  of  moral 


38  PRINCIPLES  OF  MONJiY  AND  BANKING 

deserving.  This  same  standard  tends  to  Ijccome  also  the  test  and 
measure  of  human  achievement.  Men  engage  in  business,  not  solely 
to  earn  a  livelihood,  but  to  win  a  fortune  in  a  pecuniary  sense.  To 
win  by  this  money  test  is  to  certify  one's  self  tangibly  and  demon- 
straljly  as  having  scored  in  the  most  widespread  and  absorbing  of 
competitions.  Is  one  a  great  artist — what  do  his  pictures  sell  for? 
Or  what  is  the  income  of  this  leading  advocate?  or  of  that  famous 
singer?  How  great  are  the  author's  royalties?  The  pecuniary 
standard  tends  to  be  carried  over  into  non-pecuniary  fields. 

It  is  almost  past  belief  how  far  both  in  degree  and  in  direction 
money  valuations  pervade  all  our  thinking.  Cheapness  is  prone  to  be 
synonymous  with  ugliness,  richness  with  beauty,  elegance  with 
expensiveness.  No  one  can  tell  for  himself  where  the  really  aesthetic 
begins  and  the  sheer  pecuniary  ends.  In  the  field  of  morals,  also,  the 
so-called  cash-register  conscience  is  an  actual  thing.  And  one  might 
go  still  further  and  note  that  almost  all  great  political  issues,  and 
almost  all  absorbing  social  problems,  and  almost  all  international 
complications  rest  upon  a  pecuniary  basis.  Our  national  problems  are 
tariff,  labor  unions,  strikes,  money,  trusts,  banking,  currency,  rail- 
roads, conservation  of  resources,  shipping,  taxation.  Success  in 
elections,  in  the  selection  of  senators,  in  the  making  of  laws,  and  in  the 
selection  of  judges  is  prone  to  be  desired  for  financial  ends  and  to 
be  decided  by  pecuniary  means.  Diplomatic  compUcations  hinge 
upon  trade  connections,  the  open  door,  fisheries  and  sealeries,  colonies 
for  markets,  and  spheres  of  influence  for  trade.  Navies  are  trade 
guardians  and  trade  auxiliaries.  Eliminate  from  local  politics  the 
influence  of  the  public-service  corporation,  of  the  contractor,  and  of 
the  seekers  for  special  pecuniary  privileges,  and  what  is  left  of  the 
municipal  problem  will  be  mostly  the  pecuniary  nexus  of  the  slum  with 
the  ballot  box,  of  the  saloon  with  the  police  system,  and  of  saloon  and 
slum  and  brothel  with  the  city  hall. 

It  is,  in  fact,  the  value  problem — or  more  specifically  and  more 
accurately  for  present  society,  the  problem  of  market  price — that  is 
the  central  and  unifying  problem  of  present-day  economics.  Price, 
then,  must  attend  and  characterize  all  things  that  are  economic;  and 
all  things  so  attended  are  so  far  economic  in  character.  And  more 
things  than  those  which  accurately  are  material  must  fall  within  the 
scope  of  price.  Price  extends  its  sway  to  the  utmost  limits  of  what- 
ever is  property,  tangible  or  intangible — whether  material  or  imma- 
terial.    Property  covers— and  therefore  price  covers — debts,  good 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  39 

will,  franchises — everything  that  is  bought  or  sold.  Price  includes 
also  many  non-property  facts — human  services,  such  as  the  goods  for 
which  payment  is  made  to  the  actor,  preacher,  teacher,  or  singer. 
And,  by  the  way,  all  efforts  or  processes  are  economically  productive 
for  which  a  price  is  so  paid  or  which,  directly  or  indirectly,  enhance 
the  price. 

Precisely  because  the  present  economic  life  is  organized  upon  lines 
of  private  property,  of  pursuit  of  individual  gain,  and  of  production 
for  exchange,  it  is  inevitable  that  the  center  about  which  all  economic 
activity  revolves  is  the  medium  of  exchange,  the  price  standard.  It 
is  this  fact  which  in  turn  fixes  the  problem  of  price  as  the  central 
problem  and  the  organizing  interest  of  current  political  economy  as  a 
science.  The  proof  of  this  is,  however,  mostly  to  be  found  in  that 
constant  return  to  the  price  problem  which  we  find  inevitable  as 
we  approach,  one  after  another,  the  subordinate  problems  of  the 
science.  And  these  problems,  in  turn,  declare  their  subordinate 
character  by  this  very  fact  that  they  are  only  to  be  solved  by  an 
appeal  to  the  analysis  and  the  laws  of  price.  In  the  fact  that  any- 
thing sells  at  all  in  the  present  economic  order  is  implied  its  sale 
in  terms  of  price.  Wages,  for  example,  are  the  price  of  the  services 
of  employed  labor;  profit,  the  price  reward  of  the  independent,  self- 
employed  laborer  (the  entrepreneur,  enterpriser,  Unternchmer,  or 
imprenditor);  rent,  the  price  commanded  by  property  lent  in  time 
for  hire;  interest,  the  per  cent  which  the  time  use  of  wealth,  in 
terms  of  price,  bears  to  the  total  price.  Each  of  these  is  a  price 
quantity  or  item,  and  each  presents  itself  specifically  as  a  problem  of 
price  adjustment. 


31.    THE  ROLE  OF  MONEY  IN  ECONOMIC  ORGANIZATION 
By  WALTON  H.  HAMILTON 

The  institution  of  money  is  inseparably  linked  with  the  whole 
complex  of  our  social  arrangements.  Its  part  in  facilitating  market 
operations  is  so  direct  and  evident  that  it  is  generally  conceived  of  as 
a  mere  medium  of  established  exchanges  or  a  mere  measure  of  pre- 
determined values.  Yet  a  little  reflection  shows  that  it  permeates 
every  aspect  of  economic  life,  conditions  all  economic  activity,  and 
brings  to  all  things  economic  mutual  comniensurability.  The 
''pecuniary  unit,"  which  is  its  chief  manifestation,  supplies  one  of  the 


40  PRINCIPLES  OF  MONEY  AND  BANKING 

elements  essential  to  the  development  and  maintenance  of  a  compre- 
hensive industrial  system.  Let  us  consider  somewhat  specifically  a 
few  of  the  numerous  contributions  which  this  "pecuniary  unit"  makes 
to  the  establishment  of  the  economic  order. 

1.  //  facilitates  economic  calculation. — In  an  isolated  agrarian 
community,  composed  of  people  possessing  limited  resources  and 
loving  the  "simple  life,"  few  commodities  will  be  produced.  Crudely 
measuring  costs  against  returns,  and  goods  against  goods,  the  people 
will  not  formulate  with  any  exactness  a  unit  in  terms  of  which  values 
can  be  gauged.  Such  crudeness  in  calculation  will  find  its  counterpart 
in  an  economic  order  wherein  the  family  is  the  economic  unit,  where 
there  is  little  division  of  labor,  where  natural  resources  and  personal 
talents  are  little  developed,  and  where  production  and  consumption 
are  interdependent.  But  if  resources  and  talents  are  to  be  developed, 
if  goods  are  to  be  produced  to  satisfy  a  larger  range  of  wants,  if  tasks 
are  to  be  distributed  between  individuals  and  communities,  and  if 
these  are  to  be  organized  into  a  larger  and  more  complex  whole,  a 
rather  precise  instrument  for  the  calculation  of  values  must  be  found. 
And,  as  the  economic  entity  becomes  larger,  its  use  of  resources  more 
intensive,  its  products  more  varied,  and  its  agencies  more  interde- 
pendent, values  must  be  calculated  with  more  and  more  precision. 
We  have  often  been  told  that  "money  is  the  measure  of  values"; 
yet,  in  point  of  fact,  it  is  more  exact  to  say  that  the  "  pecuniary  unit "  is 
a  common  denominator  of  all  values,  for  the  existence  of  such  a  unit 
makes  economic  calculation  possible.  It  furnishes  the  indispensable 
term  for  the  establishment  of  accounting  systems,  which  are  only 
devices  for  accurately  analyzing  schemes  of  values.  It  is  evident 
that,  as  the  unit  becomes  more  precise,  the  precision  of  economic 
calculation  is  correspondingly  increased. 

2.  //  encourages  rational  economic  judgment. — If  one's  economic 
world  contains  but  a  handful  of  tasks  and  goods,  he  can,  quite  ration- 
ally and  without  complex  calculations,  choose  this  rather  than  that. 
But  in  a  world  in  which  his  judgment  is  confronted  at  ever}'  point  by 
a  number  of  alternatives,  and  every  activity  has  pecuniar}^  connec- 
tions with  a  large  number  of  others,  a  decision  is  fraught  with  difl5- 
culties.  To  be  rationally  compared  the  alternatives  must  be  reduced 
to  quantitative  terms.  Since  their  differences  are  likely  to  be  small, 
the  determination  of  their  values  requires  precision.  Salvation  is  to 
be  found  in  the  "magic  ritual  of  calculation"  based  upon  the  "pecu- 
niary unit."    The  presence  of  such  a  unit,  further,  encourages  the  de- 


THE  PECUNIARY  ORGANIZATION  OF  SOCIETY  41 

veloping  of  the  "calculating  mind,"  which  the  mediaeval  man  would 
have  regarded  as  an  intellectual  curiosity  but  which  the  modern  busi- 
ness man  esteems  a  priceless  treasure.  It  also  stimulates  the  develop- 
ment and  use  of  more  exact  accounting  systems  and  the  exclusion 
from  economic  judgments  of  non-pecuniary  considerations.  It  is 
only  as  economic  judgments  approach  rationality  that  values  are 
kept  consistent  in  a  delicately  organized  economic  order. 

3.  //  permits  the  organization  of  consumption. — Where  an  indi- 
vidual or  a  group  consumes  its  own  products,  it  is  a  slave  to  its 
limited  resources  and  its  technical  limitations.  But  under  an  organ- 
ized pecuniary  system  this  thraldom  is  broken.  Individual  or  group, 
no  longer  compelled  to  satisfy  all  its  wants,  can  choose  the  tasks 
which  resources  or  technical  efficiency  suggest  as  most  advantageous. 
For  his  labor  the  individual  receives,  not  the  wheat  or  the  pig  iron  or 
the  shoes  he  has  produced,  but  "generalized  purchasing  power."  For 
his  consumption  he  chooses  freely,  spending  his  purchasing  power 
upon  a  large  number  of  goods,  quite  oblivious  to  his  lack  of  technical 
versatility.  For  him  consumption  is  thus  differentiated  from  pro- 
duction and  organized  upon  the  basis  of  a  rational  calculus.  Since 
other  individuals  are  acting  likewise,  the  consumption  of  wealth  by 
society  is  elaborated  into  a  highly  complex  system. 

4.  It  permits  the  organization  of  production. — In  an  economic  order 
without  the  division  of  labor',  the  "pecuniary  unit"  is  unnecessary  to 
the  organization  of  production;  but  where  specialization  appears  it  is 
far  otherwise.  The  single  establishment  uses  divers  kinds  of  laborers, 
a  medley  of  raw  materials,  and  quite  varied  industrial  equipment. 
The  costs  of  these  and  their  proportions  must  be  accurately  gauged. 
Likewise  the  "production  system"  is  a  co-ordinated  collection  of 
specialized  establishments  that  defies  diagrammatic  presentation. 
The  individual  establishment  receives  its  "raw  materials"  from 
many  sources;  its  finished  products  become  the  raw  materials  of 
many  goods.  The  correlation  of  business  with  business  is  so  close 
that  "margins,"  which  represent  allowances  for  "friction,"  are 
very  small.  The  organization  and  maintenance  of  the  single  establish- 
ment, and  the  integration  of  these  into  a  properly  co-ordinated  "pro- 
ductive system,"  are  alike  dependent  upon  careful  calculation  and 
accurate  pecuniary  judgment,  the  basis  of  which  is  the  "pecuniar\- 
unit." 

5.  //  articulates  productive  and  consumptive  activities  into  an  organic 
system. — In  a  self-sufficient   community,  possessing  no  division  of 


42  PRINCIPLES  OF  MONEY  AND  BANKING 

labor,  consumption  and  production  are  automatically  organized  into 
a  system.  In  a  world  composed  of  such  communities  the  organiza- 
tion, while  complete,  appears  crude  and  inexact;  for  there  is  quite 
likely  to  be  a  surplus  of  certain  products  in  some  communities  and  a 
dearth  of  them  in  others.  Accordingly  an  exact  adjustment  of  goods 
and  wants,  of  production  and  consumption,  is  possible  only  under  an 
extended  economic  order.  But  here  the  articulation  of  a  myriad  of 
productive  agencies  and  as  many  consumptive  activities  into  a  single 
coherent  scheme  is  a  task  of  great  magnitude.  In  the  case  of  each 
good,  demand  and  supply  must  approximately  correspond;  while, 
for  the  whole,  resources  must  be  used  in  the  production  of  those 
particular  goods  which  satisfy  wants  pecuniarily  most  potent.  For- 
tunately the  "pecuniary  unit"  enables  this  adjustment  to  be  made 
with  sufficient  precision.  It  enables  each  good  and  the  satisfaction 
of  each  want  to  have  placed  upon  it  a  "price,"  or  a  quantitative 
expression  of  its  value  in  terms  of  the  "pecuniary  unit."  Price  is  a 
flexible  medium  through  which  demand  and  supply  are  adjusted  to 
each  other.  As  we  have  learned  elsewhere,  an  increase  in  demand 
raises  the  price  and  stimulates  increased  production,  and  an  increase 
in  supply  lowers  price  and  discourages  production;  while  decreases  in 
demand  and  supply  have  antithetical  efiEects.  Thus  the  "pecuniary 
unit,"  through  "price,"  brings  the  demand  and  supply  of  a  par- 
ticular article  into  harmony.  But  as,  impelled  by  its  price,  the 
demand  or  supply  of  an  article  is  changed,  it  becomes  more  or  less 
advantageous  economically  to  produce  or  consume  other  articles. 
Accordingly,  through  price-changes,  the  demand  and  supply  of  other 
articles  are  affected.  They,  likewise,  in  the  end,  will  harmonize, 
though  likely  at  new  prices  and  in  changed  amounts.  Thus  the 
demand  for  and  supply  of  each  article  are  intimately  associated 
through  price  with  those  of  a  large  number  of  other  articles.  Hence 
a  larger  view  reveals  an  extremely  complex  and  intricately  organized 
system  for  the  "production  and  consumption  of  wealth,"  supported 
by  a  vast  and  harmonious  complex  of  pecuniary  values.  At  the  basis 
of  this  intricate  and  gigantic,  yet  orderly,  "price-structure"  Ues  the 
"pecuniary  unit." 

6.  It  gives  stability  to  the  economic  order. — If  the  economic  order 
were  a  gigantic  mechanism,  composed  of  unchangeable  elements, 
a  static  price-structure  would  preserve  it.  But  the  elements  of  our 
system  are  quite  variable:  population  may  increase,  the  technical 
system  may  change,  industrial  equipment  may  be  augmented,  the 


THE  PECUNIAR\'  ORGANIZATION  OF  SOCIETY  43 

nature  of  institutions  may  vary,  or  popular  caprice  may  affect  new 
v/ants.  Confronted  by  one  of  these  contingencies,  a  static  scheme 
of  prices  would  introduce  elements  of  disintegration  into  the  system. 
But  the  "pecuniary  unit,"  stable  itself,  allows  prices  to  change  in 
response  to  changed  circumstances.  Thus  it  induces  the  necessary 
adjustments  between  production  and  consumption  and  leaves  the 
price-structure  capable  of  sustaining  a  society  as  highly  integrated 
as  before.  Naturally,  changed  prices  introduce  inconsistencies  into 
the  price-structure,  but  in  time  tJiese  tend  to  disappear.  Since 
change  is  constantly  occurring,  the  system  always  possesses  a  degree 
of  inconsistency.  This  is  the  very  purpose  of  the  "margins"  allowed 
to  interlocking  businesses. 

Paradoxical  as  it  may  appear,  money  must  be  inconspicuous  in 
itself  if  it  would  best  fill  the  role  of  economic  organizer.  If  it  be 
heavy,  or  impure,  or  if  it  otherwise  entail  cost  in  making  exchanges, 
it  restricts  by  so  much  the  development  of  a  highly  organized  society. 
When  economical  substitutes  are  used  in  actual  exchanges,  and  money 
ceases  to  be  a  "medium  of  exchange,"  it  becomes  a  more  exact  meas- 
ure of  value  and  a  more  eflScient  organizer  of  economic  activities. 
Likewise,  the  more  certain  its  value,  the  more  effective  its  work  in. 
sustaining  the  economic  order.  Since  it  is  associated  with  some  such 
commodity  as  gold,  the  "pecuniary  unit"  cannot  be  exact.  But 
inexactness,  either  actual  or  anticipated,  has  always  threatened 
chaos.  There  have  been  times  when  we  were  uncertain  as  to  what 
was  to  be  the  "standard  for  deferred  payments"  or  "the  definition  of 
the  unit  of  value."  There  have  been  times,  for  instance  periods  of 
great  gold  production,  when  the  amount  of  value  in  "the  unit"  was 
being  radically  changed.  Both  were  accompanied  by  a  partial 
disarrangement  of  the  price-structure  and  a  corresponding  disin- 
tegration of  the  industrial  system.  In  such  periods  it  is  particularly 
difficult  to  measure  present  and  future  values  m  terms  of  each  other, 
and  economic  judgments  which  guide  the  system  as  a  whole  are  not 
sufficiently  rational.  This  tendency  to  disintegration  will  remain 
until  an  "inflexible  unit  of  purchasing  power"  is  established.  When 
that  is  done,  questions  of  monetary  theory  will  have  only  academic 
interest  and  money  will  perfectly  perform  its  organizing  function. 

The  organizing  function  of  the  pecuniary  unit  is  not  confined  to 
the  present  economic  order.  The  pecuniary  unit  is  a  fit  companion 
for  such  institutions  as  private  j^roperty,  free  contract,  pecuniary  com- 
petition, and  individual  initiative.     But  its  service  would  be  cfjually 


44  PRINCIPLES  OF  MONEY  AND  BANKING 

indispensable  in  a  society  quite  unlike  ours.  Under  socialism,  for 
instance,  even  though  the  state  took  the  initiative  in  production,  to 
guide  its  economic  judgment  it  would  require  a  means  for  determining 
the  quantities  in  which  its  varied  goods  were  to  be  produced.  This 
would  require  a  means  for  exact  valuation,  such  as  could  be  found 
only  in  a  proper  accounting  system,  for  which  the  "pecuniary  unit" 
must  furnish  the  basis.  Accordingly  we  may  conclude  that  the 
"pecuniary  unit,"  the  principal  manifestation  of  money,  is  an  agency 
of  prime  importance  in  establishing  and  maintaining  a  complex 
economic  order. 


n 

THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY 

Introduction 

The  institution  of  money  is  of  venerable  age,  evidence  of  its  exist- 
ence in  one  form  or  another  going  back  as  far  as  recorded  history.  Its 
beginnings  being  thus  shrouded  in  antiquity,  the  nature  of  its  origin 
is  consequently  more  or  less  a  matter  of  numismatical  speculation. 
The  study  of  the  use  of  money  among  primitive  tribes  of  our  own 
time,  however,  has  thrown  considerable  light  on  the  subject,  and  a 
number  of  different  theories  have  been  advanced  for  its  development. 
The  chief  of  these  are  set  forth  in  the  selections  below. 

In  connection  with  these  readings  it  is  important  to  differentiate 
carefully  the  various  functions  of  money  and  to  ascertain  in  each  case 
what  particular  function,  or  combination  of  functions,  has  been  per- 
formed by  the  various  kinds  of  currency  enumerated.  It  will  be 
seen  that  in  many  cases  the  money  in  use  has  not  performed  all  the 
functions  discussed  under  Chapter  i.  Indeed,  the  various  functions 
did  not  develop  simultaneously,  the  standard  of  deferred  payments, 
for  instance,  being  of  relatively  late  origin.  In  regard  to  its  functions 
as  a  medium  of  exchange  and  a  common  denominator  of  value,  there 
has  been  much  discussion  over  the  question  of  priority. 

At  different  times  and  among  different  peoples  a  great  variety  of 
commodities  has  been  used  as  money,  but  gradually  with  the  evolu- 
tion of  commerical  civilization  the  precious  metals,  gold  and  silver, 
have  come  to  be  almost  exclusively  used  as  the  bases  of  monetary 
systems.  The  reasons  for  this  evolution  are  shown  in  the  selections 
under  Section  C.  It  is  particularly  important  to  study  the  table 
of  the  production  of  the  precious  metals  in  connection  with  the  adop- 
tion of  gold  and  silver  for  monetary  use. 

It  will  be  observed  that  one  of  the  most  important  reasons  for  the 
universal  adoption  of  the  precious  metals  as  money  is  their  adapta- 
bility to  coinage,  thereby  furnishing  a  uniform  system  of  currencv. 
The  development  of  a  good  system  of  coinage,  however,  has  been 
a  long  and  tedious  process;  for  although  money  appears  to  have  been 

45 


46  PRINCIPLES  OF  MONEY  AND  BANKING 

minted  aflcr  a  fashion  in  very  ancient  times  it  was  not  until  quite 
recently  that  a  really  satisfactory  method  of  coining  money  was 
perfected.  The  consequences  of  a  bad  system  of  coinage  have  been 
disastrous  from  every  standpoint;  and  for  centuries  the  perpetually 
"unfortunate  state  of  the  currency",  was  a  very  serious  barrier  to 
commercial  progress. 

A.     Origin  of  Primitive  Money 

32.    THE  ORIGIN  AND  USE  OF  MONEY' 
By  ADAM  SMITH 

In  order  to  avoid  the  inconvenience  of  barter  every  prudent  man 
in  every  period  of  society,  after  the  first  establishment  of  the  division 
of  labor,  must  naturally  have  endeavored  to  manage  his  affairs  in  such 
a  manner  as  to  have  at  all  time  by  him,  besides  the  peculiar  produce 
of  his  own  industry,  a  certain  quantity  of  some  one  commodity  or 
other,  such  as  he  imagined  few  people  would  be  likely  to  refuse  in 
exchange  for  the  produce  of  their  industry. 

Many  different  commodities,  it  is  probable,  were  successively 
thought  of  and  employed  for  this  purpose.  In  all  countries,  however, 
men  seem  at  last  to  have  been  determined  by  irresistible  reasons 
to  give  the  preference,  for  this  emplojrment,  to  metals  above  every 
other  commodity.  Metals  can  not  only  be  kept  with  as  little  loss 
as  any  other  commodity,  scarcely  anything  being  less  perishable  than 
they  are,  but  they  can  likewise  without  any  loss  be  divided  into  a 
number  of  parts,  and  by  a  fusion  of  those  parts  can  easily  be  reunited 
again,  a  quality  which  no  other  equally  durable  commodities  possess, 
and  which  more  than  any  other  quality  renders  them  fit  to  be  the 
instruments  of  commerce  and  circulation. 

33.    ORNAMENTATION  AND  MONEY* 
By  W.  W.  CARLILE 

Let  us  get  rid,  once  for  all,  of  the  idea  that  a  commodity  owes 
its  "adoption"  as  money  to  any  "convention"  tacit  or  explicit 
entered  into  with  each  other  by  the  members  of  primitive  communities. 
The  criticism  at  once  suggests  itself  with  reference  to  Adam  Smith's 
explanation  of  the  origin  of  money,  that  if  the  prudent  man  could 

'  Adapted  from  The  Wealth  of  Nations,  Book  I,  chap.  iv. 

'Adapted  from  The  Evolution  of  Modern  Money,  pp.  225-70.  (The  Mac- 
millan  Co.,  1901.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  47 

find  any  commodity  that  few  would  refuse  in  exchange  for  their 
products,  then  money  was  aheady  virtually  established.  The  very 
thing  that  we  want  to  know  is,  how  did  first  one  commodity,  then 
another,  and  finally  gold  and  silver,  attain  such  a  degree  of  uni- 
versal acceptabihty  as  ensured  their  being  refused  by  none  in  exchange 
for  their  products  ? 

It  may  be  worth  while,  first,  to  take  note  of  those  characteristics 
which  render  a  commodity  conspicuously  unfit  for  its  choice  as 
money.  The  eminent  German  historian,  Mommsen,  observes: 
''The  commodity  that  becomes  money  must  over  all  things  not  be 
one  that  is  indispensable  for  the  supply  of  the  most  urgent  material 
needs."  The  reason  that  prime  necessities  of  life  never  become  money 
is  plainly  that  the  desire  for  them  is  dependent  upon  bodily  appetites, 
and  is  therefore  liable  at  any  moment  to  satiation.  If  a  man  had  not 
more  than  enough  of  wheat,  for  example,  to  satisfy  present  hunger, 
he  would  not  part  with  any  of  it.  If,  on  the  contrary,  he  and  the 
rest  of  the  community  had  enough  of  it  for  present  wants,  together 
with  such  provision  for  future  needs  as  they  regarded  as  adequate, 
then  any  man  who  had  a  superfluity  of  it  would  not  be  able  to  barter 
away  any  part  of  it  on  any  terms  whatsoever.  No  one  would  take  it 
off  his  hands.  The  only  circumstances  in  which  wheat  could  con- 
ceivably assume  a  position  anything  like  that  of  money  would  be  in 
the  event  of  there  being  an  export  outlet  for  it.  It  was  such  an  export 
outlet  that  gave  currency  to  tobacco  in  Virginia.  "Since  tobacco 
was  in  unfailing  demand  for  shipment  abroad  it  was  alwa}s  readily 
taken  at  the  country  store."  When,  however,  we  take  the  world 
as  a  whole,  or  any  self-contained  section  of  it,  hke  Europe  in  the 
early  Middle  Ages,  there  can  evidently  be  no  outlet  constantly  open 
for  any  commodity,  so  far  as  the  conditions  of  space  are  concerned. 
There  may,  however,  be  an  outlet  in  time,  that  is  to  say,  the  whole 
surplus  of  some  commodity  which  is  not  required  to  supply  present 
needs  may  be  absorbed  for  the  purposes  of  provision  for  the  future; 
and  this,  as  a  matter  of  fact,  is  what  happens  with  regard  to  the 
monetary  commodity.  The  origin  of  money  is  thus  essentially  con- 
nected with  that  stage  in  human  development  when  men  begin  to 
"look  before  and  after,"  to  make  provision  for  the  future. 

The  commodity  which  would  best  secure  a  man's  future  well- 
being  would  not  be  so  much  the  commodity  best  adapted  for  immedi- 
ate use  by  himself  or  his  dependents  as  the  commodity  which  would 
be  most  efficient  in  securing  for  him  the  services  of  his  neighbors  or 


48  PRINCIPLES  OF  MONEY  AND  BANKING 

of  strangers  unconnected  with  him.  We  find,  moreover,  and  not 
without  surprise,  that  the  commodity  of  greatest  direct  utility  is 
not  the  most  useful  in  procuring  the  services  of  others,  or  in  making 
provision  for  the  future.  On  the  contrary,  the  commodity  most 
highly  prized  is  usually  one  which  could  easily  be  dispensed  with. 

"Wherever  we  come  across  man  on  the  surface  of  the  globe,"  says 
M.  Babelon,  "we  find  that  it  is  the  superflous  which  by  instinct  seems 
to  him  the  most  necessary;  man  has  scarcely  learnt  the  use  of  clothes 
before  he  hangs  onto  his  neck,  his  arms,  his  legs,  his  ears,  necklaces, 
bracelets,  rings,  and  pendants  of  every  shape,  in  the  manufacture  of 
which  the  precious  metals  are  always  and  everywhere  preferred. 
Ever  since  the  beginning  of  the  world,  the  pursuit  of  gold  and  silver 
has  dominated  everything;  ages  before  the  invention  of  money  and  the 
appearance  of  the  legislator  nations  made  war  with  each  other  for  the 
possession  of  the  precious  metals,  organized  for  their  acquisition 
large  and  perilous  expeditions,  which  have  left  their  memory  in  his- 
tory and  in  fable,  such  as  the  expedition  of  the  Argonauts  in  search 
of  the  Golden  Fleece,  the  adventures  of  Hercules  in  the  Garden  of  the 
Hesperides,  and  the  voyages  of  the  ships  of  Tyre  and  Sidon  to  the 
country  of  Pharsis." 

These  precious  metals  which  were  thus  passionately  sought  for 
purposes  of  adornment  naturally  became  the  means  of  making  pro- 
vision for  the  future,  and  of  reckoning  wealth.  They  served  at  one 
and  the  same  time  the  purposes  of  ornament  and  of  money.  The 
possession  of  gold  and  silver  ornaments  gave  distinction  and  social 
prestige  to  the  owners.  Everyone  prized  the  precious  metals,  there- 
fore, and  in  consequence  their  general  acceptability  made  them  most 
desirable  commodities  for  monetary  purposes. 

34.    THE  ORIGIN  OF  MEDIA  OF  EXCHANGE' 
By  KARL  MENGER 

It  has  long  been  the  subject  of  universal  remark  in  centers  of 
exchange,  that  for  certain  commodities  there  existed  a  greater,  more 
constant,  and  more  effective  demand  than  for  other  commodities 
less  desirable  in  certain  respects.  The  person  who  wishes  to  acquire 
certain  definite  goods  in  exchange  for  his  owti  is  in  a  more  favourable 
position  if  he  brings  commodities  of  this  kind  to  market  than  if  he 
visits  the  market  with  goods  which  cannot  display  such  advantages, 

'  Adapted  from  "The  Origin  of  Money,"  Economic  Journal,  II  (1892),  247-52. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  49 

or  at  least  not  in  the  same  degree.  Thus  equipped  he  has  the  pros- 
pect of  acquiring  such  goods  as  he  finally  wishes  to  obtain,  not  only 
with  greater  ease  and  security,  but  also,  by  reason  of  the  steadier  and 
more  prevailing  demand  for  his  own  commodities,  at  prices  corre- 
sponding to  the  general  economic  situation — at  economic  prices. 
Under  these  circumstances  when  anyone  has  brought  goods  not  highlv 
salable  to  market,  the  idea  uppermost  in  his  mind  is  to  exchange 
them,  not  only  for  such  as  he  happens  to  be  in  need  of,  but,  if  this 
cannot  be  effected  directly,  for  other  goods  also,  which,  while  he 
did  not  want  them  himself,  were  nevertheless  more  salable  than  his 
own.  By  so  doing  he  certainly  does  not  attain  at  once  the  final 
object  of  his  trafficking,  to  wit,  the  acquisition  of  goods  needful  to 
himself.  Yet  he  draws  nearer  to  that  object.  By  the  devious  way 
of  a  mediate  exchange  he  gains  the  prospect  of  accomplishing  his  pur- 
pose more  surely  and  economically  than  if  he  had  confined  himself 
to  direct  exchange.  Now  in  point  of  fact  this  seems  everywhere  to 
have  been  the  case.  Men  have  been  led,  with  increasing  knowledge 
of  their  individual  interests,  each  by  his  own  economic  interests,  with- 
out convention,  without  legal  compulsion,  nay,  even  without  any 
regard  to  the  common  interest,  to  exchange  goods  destined  for 
exchange  for  other  goods  equally  destined  for  exchange,  but  more 
salable. 

With  the  extension  of  traffic  in  space  and  with  the  expansion 
over  ever  longer  intervals  of  time  of  provision  for  satisfying  material 
needs,  each  individual  would  learn,  from  his  own  economic  interests, 
to  take  good  heed  that  he  bartered  his  less  salable  goods  for  those 
special  commodities  which  displayed,  besides  the  attraction  of  being 
highly  salable  in  the  particular  locality,  a  wide  range  of  salablcness 
both  in  time  and  place.  These  wares  would  be  qualified  by  their 
costliness,  easy  transportability,  and  fitness  for  preservation  (in 
connection  with  the  circumstance  of  their  corresponding  to  a  steady 
and  widely  distributed  demand)  to  insure  to  the  possessor  a  power, 
not  only  "here"  and  "now,"  but  as  nearly  as  possible  unhmited  in 
space  and  time  generally,  over  all  other  market  goods  at  economic 
prices. 

When  the  relatively  most  salable  commodities  have  become 
"money,"  the  event  has  in  the  first  place  the  effect  of  substantially 
increasing  their  originally  high  salableness.  Every  economic  sub- 
ject bringing  less  salable  wares  to  market,  to  acquire  goods  of  another 
sort,  has  thenceforth  a  stronger  interest  in  converting  what  he  has 


50  PRINCIPLES  OF  MONEY  AND  BANKING 

in  Ihe  first  instance  into  wares  which  have  become  money.  For  such 
persons,  by  the  exchange  of  their  less  salable  wares  for  those  which 
as  money  arc  most  salable,  attain  not  merely,  as  heretofore,  a  higher 
probal^ility,  but  the  certainty  of  being  able  to  acquire  forthwith 
equivalent  quantities  of  every  other  kind  of  commodity  to  be  had  in 
the  market.  And  their  control  over  these  depends  simply  upon  their 
pleasure  and  their  choice.  Pecuniam  habens,  habet  omnem  rem  quern 
vult  habere. 

On  the  other  hand,  he  who  brings  other  wares  than  money  to 
market  finds  himself  at  a  disadvantage  more  or  less.  To  gain  the 
same  command  over  what  the  market  affords,  he  must  first  convert 
his  exchangeable  goods  into  money.  The  nature  of  his  economic 
disability  is  shown  by  the  fact  of  his  being  compelled  to  overcome  a 
difficulty  before  he  can  attain  his  purpose,  which  difficulty  does  not 
exist  for,  i.e.,  has  already  been  overcome  by,  the  man  who  owns 
a  stock  of  money. 

Thus  the  effect  produced  by  such  goods  as  are  relatively  most 
salable  becoming  money  is  an  increasing  differentiation  between 
their  degree  of  salableness  and  that  of  all  other  goods.  And  this 
difference  in  salableness  ceases  to  be  altogether  gradual  and  must 
be  regarded  in  a  certain  aspect  as  something  absolute.  The  practice 
of  everyday  life,  as  well  as  jurisprudence,  which  closely  adheres  for 
the  most  part  to  the  notions  prevalent  in  everyday  life,  distinguish 
two  categories  in  the  wherewithal  of  traffic — goods  which  have 
become  money  and  goods  which  have  not.  And  the  ground  of  this 
distinction,  we  find,  lies  essentially  in  that  difference  in  the  sal- 
ableness of  commodities  set  forth  above — a  difference  so  significant 
for  practical  life  and  which  comes  to  be  further  emphasized  by  inter- 
vention of  the  state. 

It  is  obvious  how  highly  significant  a  factor  is  habit  in  the  genesis 
of  such  generally  serviceable  means  of  exchange.  It  lies  in  the 
economic  interests  of  each  trafficking  individual  to  exchange  less 
salable  for  more  salable  commodities.  But  the  willing  acceptance 
of  the  medium  of  exchange  presupposes  already  a  knowledge  of  these 
interests  on  the  part  of  those  economic  subjects  who  are  expected  to 
accept  in  exchange  for  their  wares  a  commodity  which  in  and  by 
itself  is  perhaps  entirely  useless  to  them.  It  is  certain  that  this 
knowledge  never  arises  in  every  part  of  the  nation  at  the  same  time. 
It  is  only  in  the  first  instance  a  limited  number  of  economic  subjects 
who  will  recognize  the  advantage  in  such  procedure,  an  advantage 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  51 

which,  in  and  by  itself,  is  independent  of  the  general  recognition  of 
a  commodity  as  a  medium  of  exchange,  inasmuch  as  such  an  exchange, 
always  and  under  all  circumstances,  brings  the  economic  unit  a  good 
deal  nearer  to  his  goal,  to  the  acquisition  of  useful  things  of  which  he 
really  stands  in  need.  But  it  is  admitted  that  there  is  no  better  method 
of  enlightening  anyone  about  his  economic  interests  than  that  he  per- 
ceive the  economic  success  of  those  who  use  the  right  means  to  secure 
their  own.  Hence  it  is  also  clear  that  nothing  may  have  been  so 
favourable  to  the  genesis  of  a  medium  of  exchange  as  the  acceptance, 
on  the  part  of  the  most  discerning  and  capable  economic  subjects, 
for  their  own  economic  gain,  and  over  a  considerable  period  of  time, 
of  eminently  salable  goods  in  preference  to  all  others.  In  this  way 
practice  and  habit  have  certainly  contributed  not  a  little  to  cause 
goods,  which  were  most  salable  at  any  time,  to  be  accepted,  not  only 
by  many,  but  finally  by  all,  economic  subjects  in  exchange  for  their 
less  salable  goods:  and  not  only  so,  but  to  be  accepted  from  the 
first  with  the  intention  of  exchanging  them  away  again. 

It  is  not  impossible  for  media  of  exchange,  serving  as  they  do  the 
commonweal  in  the  most  emphatic  sense  of  the  word,  to  be  instituted 
also  by  way  of  legislation,  like  other  social  institutions.  But  this 
is  neither  the  only  nor  the  primary  mode  in  which  money  has  taken 
its  origin.  This  is  much  more  to  be  traced  in  the  process  depicted 
above,  notwithstanding  the  nature  of  that  process  would  be  but 
very  incompletely  explained  if  we  were  to  call  it  "organic,"  or  denote 
money  as  something  "primordial,"  of  "primeval  growth,"  and  so 
forth.  Putting  aside  assumptions  which  are  historically  unsound, 
we  can  come  fully  to  understand  the  origin  of  money  only  by  learning 
to  view  the  establishment  of  the  social  procedure,  with  which  we  are 
dealing,  as  the  spontaneous  outcome,  the  unpremeditated  resultant, 
of  particular,  individual  efforts  of  the  members  of  a  society  who  have 
little  by  little  worked  their  way  to  a  discrimination  of  the  different 
degrees  of  salableness  in  commodities. 

35.    THE  ORIGIN  OF  MONEY  THROUGH  INTERTRIBAL 
RELATIONS' 

By  carl  BiJCHER 

One  fancies  the  genesis  of  exchange  to  have  been  very  easy, 
because  civilized  man  is  accustomed  to  find  all  that  he  needs  ready 
made  at  the  market  or  store  and  to  be  able  to  obtain  it  for  money. 

'  Adapted  from  Indtislrial  Evolution,  pp.  60-68  (Wickett's  translation). 
(Henry  Holt  &  Co.,  1893.) 


52  PRINCIPLES  OF  MONEY  AND  BANKING 

With  primitive  man,  however,  value  and  price  were  by  no  means 
current  conceptions.  The  first  discoverers  of  Australia  found  inva- 
riably that  the  aborigines  had  no  conception  of  exchange.  The  orna- 
ments offered  them  had  no  power  whatever  to  arouse  their  interest; 
gifts  pressed  upon  them  were  found  later  strewn  about  in  the  woods 
where  they  had  been  cast  in  neglect.  Yet  there  was  between  tribes 
a  brisk  trade  in  pots,  stone  hatchets,  hammocks,  cotton  threads, 
necklaces  of  mussel  shells,  and  many  other  products. 

This  exchange  between  tribes  arises  by  way  of  presents,  or  rob- 
bery, spoils  of  war,  fine,  compensation,  and  winning  in  gaming.  Within 
the  tribe  goods  are  shared  largely  in  common.  It  is  looked  upon  as 
theft  if  a  herd  of  cattle  is  slaughtered  and  not  shared  with  one's 
neighbors,  or  if  one  is  eating  and  neglects  to  invite  a  passer-by. 
Anyone  can  enter  a  hut  at  will  and  demand  food;  and  he  is  never 
refused.  Whole  communities,  if  a  poor  harvest  befall,  visit  their 
neighbors  and  look  to  them  for  temporary  support.  For  articles  of 
use  and  implements  there  exists  a  universal  custom  of  loaning  which 
really  assumes  the  character  of  a  duty ;  and  there  is  no  private  owner- 
ship of  the  soil.  In  such  a  community  there  is  no  occasion  for  direct 
barter.  Exceptions  occur  when  purchasing  a  wife  and  making 
presents  to  the  medicine  man,  the  singer,  the  dancer,  and  the  min- 
strel, who  are  the  only  persons  carrying  on  a  species  of  separate 
occupation. 

From  tribe  to  tribe  there  prevail  rules  of  hospitality,  which  recur 
with  tolerable  similarity  among  all  primitive  peoples.  The  stranger 
on  arriving  receives  a  present  which  after  a  certain  interval  he  recipro- 
cates, and  at  his  departure  another  present  is  handed  him.  On  both 
sides  wishes  may  be  expressed  with  regard  to  these  gifts.  In  this 
way  it  is  possible  to  obtain  things  required  or  desired,  and  success 
is  the  more  assured  inasmuch  as  neither  party  is  absolved  from  the 
obligations  of  hospitality  until  the  other  declares  himself  satisfied 
with  the  presents.  This  custom  of  reciprocal  gifts  of  hospitality 
permits  rare  products  of  a  land  or  artistic  creations  of  a  tribe  to  cir- 
culate from  people  to  people,  and  to  cover  just  as  wide  distance  from 
their  origin  as  in  the  case  of  modern  trade. 

Once  originated,  exchange  long  retains  the  marks  of  its  descent 
in  the  rules  that  are  attached  to  it  and  which  are  taken  directly  from 
the  customs  connected  with  gifts.  Among  many  peoples  a  gift  pre- 
cedes or  follows  a  deal;  the  "good  measure"  of  our  village  store- 
keepers and  "treating"  are  survivals   of    this  custom.     To  decline 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  53 

without  grounds  an  exchange  that  has  been  offered  passes  among  the 
Negroes  as  an  insult,  just  as  the  refusal  of  a  gift  among  ourselves. 
The  idea  that  service  interchanged  must  be  of  ecjual  value  can  hardly 
be  made  intelligible  to  primitive  man. 

As  time  passes,  exchange  creates  from  tribe  to  tribe  its  own  con- 
trivances for  facilitating  matters.  Most  important  of  these  are 
markets  and  money.  Markets  are  uniformly  held  among  Negroes, 
East  Indians,  and  Polynesians  in  open  places,  often  in  the  midst  of 
the  primeval  forests,  on  the  tribal  borders.  They  form  neutral  dis- 
tricts within  which  all  tribal  hostiUties  must  cease;  whoever  violates 
the  market  peace  exposes  himself  to  the  severest  punishments. 
Each  tribe  brings  to  the  market  whatever  is  peculiar  to  it;  one  honey, 
another  palm-wine,  and  a  third  dried  meat,  still  another  earthenware 
or  mats  or  woven  stuffs.  The  object  of  the  interchange  is  to  obtain 
products  that  cannot  be  procured  in  one's  own  tribe  at  all,  or  at  least 
cannot  be  produced  so  well  or  so  artistically  as  in  neighboring  tribes. 
This  must  again  lead  each  tribe  to  produce  in  greater  quantities  than 
it  requires  those  products  which  are  valued  among  the  tribes  not 
producing  them. 

Now  with  regard  to  money.  How  much  has  been  written  and 
imagined  about  the  many  species  of  money  among  primitive  peoples, 
and  yet  how  simple  the  explanation  of  their  origin!  The  money  of 
each  tribe  is  that  trading  commodity  which  it  does  not  itself  produce, 
but  which  it  regularly  acquires  from  other  tribes  b}'  way  of  exchange. 
Such  an  article  naturally  becomes  the  universal  medium  of  exchange 
for  the  tribe.  It  is  the  measure  of  value  according  to  which  property 
is  valued.  Fellow-tribesmen  soon  come  to  employ  it  also  in  trans- 
ferring values,  for  because  of  its  scarcity  it  is  equally  welcome  to  all. 
Thus  is  explained  what  our  travellers  have  frequently  observed,  that 
in  each  tribe,  often  in  passing  from  village  to  village,  a  different 
money  is  current.  In  this  way  also  is  to  be  explained  the  further 
fact,  which  has  come  under  observation,  of  exchangeable  commodities 
naturally  scarce,  such  as  salt,  cowry  shells,  and  bars  of  copper,  or 
products  of  rare  skill,  such  as  European  calicoes,  guns,  powder, 
knives,  becoming  general  mediums  of  exchange. 


54  PRINCIPLES  OF  MONEY  AND  BANKING 

B.     Forms  of  Primitive  Money 

36.    REQUISITES  OF  A  SATISFACTORY  MONEY  MATERIAL* 
By  W.  STANLEY  JEVONS 

To  decide  upon  the  best  material  for  money  is  a  problem  of  great 
complexity,  because  we  must  take  into  account  at  once  the  relative 
importance  of  the  several  functions  of  money,  the  degree  in  which 
money  is  employed  for  each  function,  and  the  importance  of  each  of 
the  physical  qualities  of  the  substance  with  respect  to  each  function. 
In  a  simple  state  of  industry  money  is  chiefly  required  to  pass  about 
between  buyers  and  sellers.  It  should  then  be  conveniently  port- 
able, divisible  into  pieces  of  various  size,  so  that  any  sum  may  readily 
be  made  up,  and  easily  distinguishable  by  its  appearance,  or  by  the 
design  impressed  upon  it.  When  money,  however,  comes  to  serve, 
as  it  will  at  some  future  time,  almost  exclusively  as  a  measure  and 
standard  of  value,  the  system  of  exchange  being  one  of  perfected 
barter,  such  properties  become  a  matter  of  comparative  indifference, 
and  stability  of  value,  joined  perhaps  to  portability,  is  the  most 
important  quahty.  Before  venturing,  however,  to  discuss  such  com- 
plex questions,  we  must  proceed  to  a  preliminary  discussion  of  the 
properties  in  question,  which  may  thus  perhaps  be  enumerated  in 
the  order  of  their  importance:  (a)  utility  and  value;  (b)  portability; 
(c)  indestructibility;  (d)  homogeneity;  (e)  divisibility;  (/)  stability 
of  value;   (g)  cognizability. 

a)  Utility  and  value. — Since  money  has  to  be  exchanged  for 
valuable  goods,  it  should  itself  possess  value,  and  it  must  therefore 
have  utility  as  the  basis  of  value. 

When  once  a  substance  is  widely  employed  as  money,  it  is  con- 
ceivable that  its  utility  will  come  to  depend  mainly  upon  the  serv- 
ices which  it  thus  confers  upon  the  community.  Gold,  for  instance, 
is  far  more  important  as  the  material  of  money  than  in  the  produc- 
tion of  plate,  jewelry,  watches,  gold-leaf,  etc.  A  substance  originally 
used  for  many  purposes  may  eventually  serve  only  as  money,  and  yet, 
by  the  demand  for  currency  and  the  force  of  habit,  may  maintain  its 
value.  The  cowry  circulation  of  the  Indian  coasts  is  probably  a  case 
in  point.  The  importance  of  habit,  personal  or  hereditary,  is  at  least 
as  great  in  monetary  science  as  it  is  in  morals  and  sociological  phe- 
nomena generally.    There  is  no  reason  to  suppose  that  the  value  of 

'  Adapted  from  Money  atid  the  Mechanism  of  Exchange  (1875),  pp.  30-39- 
(D.  Appleton  &  Co.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  55 

gold  and  silver  is  at  present  due  solely  to  their  conventional  use  as 
money.  These  metals  are  endowed  with  such  singularly  useful 
properties  that,  if  we  could  only  get  them  in  sufficient  abundance, 
they  would  supplant  all  the  other  metals  in  the  manufacture  of  house- 
hold utensils,  ornaments,  fittings  of  all  kinds,  and  an  infinite  multitude 
of  small  articles,  which  are  now  made  of  brass,  copper,  bronze,  pewter, 
German  silver,  or  other  inferior  metals  and  alloys.  ^Moreover,  the 
beautiful  lustre  of  gold  and  silver  must  have  excited  admiration 
among  all  peoples  at  all  times. 

b)  Portability. — The  material  of  money  must  not  only  be  valu- 
able, but  the  value  must  be  so  related  to  the  weight  and  bulk  of  the 
material  that  the  money  shall  not  be  inconveniently  hea\y  on  the  one 
hand,  nor  inconveniently  minute  on  the  other.  Iron  money  could 
not  be  used  in  cash  payments  at  the  present  day,  since  a  penny  would 
weigh  about  a  pound,  and  instead  of  a  five-pound  note,  we  should 
have  to  deliver  a  ton  of  iron.  During  the  last  century  copper  was 
actually  used  as  the  chief  medium  of  exchange  in  Sweden;  and  mer- 
chants had  to  take  a  wheelbarrow  with  them  when  they  went  to 
receive  payments  in  copper  dalers. 

The  portability  of  money  is  an  important  quality,  not  merely 
because  it  enables  the  owner  to  carry  small  sums  in  the  pocket  without 
trouble,  but  because  large  sums  can  be  transferred  from  place  to 
place,  or  from  continent  to  continent,  at  little  cost.  The  cost  of 
conveying  gold  or  silver  from  London  to  Paris,  including  insurance, 
is  only  about  four-tenths  of  i  per  cent;  and  between  the  most  distant 
parts  of  the  world  it  does  not  exceed  from  2  to  3  per  cent. 

c)  Indestructibility. — If  it  is  to  be  passed  about  in  trade,  and  kept 
in  reserve,  money  must  not  be  subject  to  easy  deterioration  or  loss. 
It  must  not  evaporate  like  alcohol,  nor  putrefy  like  animal  substances, 
nor  decay  like  wood,  nor  rust  like  iron. 

d)  Homogeneity. — All  portions  of  specimens  of  the  substance 
used  as  money  should  be  homogeneous,  that  is,  of  the  same  ciuahty, 
so  that  equal  weights  will  have  exactly  the  same  value.  In  order 
that  we  may  correctly  count  in  terms  of  any  unit,  the  units  must  be 
equal  and  similar,  so  that  twice  two  will  always  make  four.  If  we 
were  to  count  in  precious  stones,  it  would  seldom  happen  that  four 
stones  would  be  just  twice  as  valuable  as  two  stones. 

e)  Divisibility. — Closely  connected  with  the  last  property  is  that 
of  divisibility.  Every  material  is,  indeed,  mechanically  divisible, 
almost  without  limit.     The  hardest  gems  can  be  broken,  and  steel 


$6  PRINCIPLES  OF  MONEY  AND  HANKING 

can  be  cut  by  harder  steel.  But  the  material  of  money  should  be 
not  merely  capal)lc  of  division,  but  the  aggregate  value  of  the  mass 
after  division  should  be  almost  exactly  the  same  as  before  division. 

/)  Stability  of  value. — It  is  evidently  desirable  that  the  currency 
should  not  be  subject  to  fluctuations  of  value.  This  would  be  a  matter 
of  comparatively  minor  importance  were  money  used  only  as  a 
measure  of  values  at  any  one  moment,  and  as  a  medium  of  exchange. 
If  all  prices  were  altered  in  like  proportion  as  soon  as  money  varied 
in  value,  no  one  would  lose  or  gain,  except  as  regards  the  coin  which 
he  happened  to  have  in  his  pocket,  safe,  or  bank  balance.  But 
practically  speaking,  people  do  employ  money  as  a  standard  of  value 
for  long  contracts,  and  they  often  maintain  payments  at  the  same 
variable  rate,  by  custom  or  law,  even  when  the  real  value  of  the  pay- 
ment is  much  altered.  Hence  every  change  in  the  value  of  money 
does  some  injury  to  society. 

g)  Cognizability. — By  this  name  we  may  denote  the  capability 
of  a  substance  to  be  easily  recognized  and  distinguished  from  all  other 
substances.  As  a  medium  of  exchange,  money  has  to  be  continually 
handed  about,  and  it  will  occasion  great  trouble  if  every  person 
receiving  currency  has  to  scrutinize,  weigh,  and  test  it.  If  it  requires 
any  skill  to  discriminate  good  money  from  bad,  poor  ignorant  people 
are  sure  to  be  imposed  upon. 

Under  cognizability  we  may  properly  include  what  has  been  aptly 
called  impressibility,  namely,  the  capability  of  a  substance  to  receive 
such  an  impression,  seal,  or  design  as  shall  establish  its  character 
as  current  money  of  certain  value.  We  might  more  simply  say  that 
the  material  of  money  should  be  coinable. 

37.     PRIMITIVE  SYSTEMS  OF  CURRENCY' 
By  WILLIAM  RIDGEWAY 

When  in  a  certain  community  one  particular  kind  of  commodity 
is  of  general  use  and  generally  available,  this  comes  to  form  the  unit 
in  terms  of  which  all  values  are  expressed.  The  nature  of  this  barter- 
unit  will  depend  upon  the  nature  of  the  climate  and  geographical 
position,  and  likewise  upon  the  stage  of  culture  to  which  the  people 
have  attained. 

In  the  hunting  stage,  all  the  property  of  each  individual  consists 
in  his  weapons  and  implements  of  war  and  the  chase,  and  the  skins  of 

'  Adapted  from  Origin  of  Currency  and  Weight  Standards,  pp.  1 1-30. 
(Cambridge  University  Press,  1892.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  57 

wild  beasts  which  form  his  clothing,  and  sometimes  the  cover  of  his 
hut  or  wigwam. 

At  a  later  stage,  when  he  has  succeeded  in  taming  the  ox,  the 
sheep  or  the  goat,  or  the  horse,  he  is  the  owner  of  property  in  domestic 
animals,  whose  flesh  and  milk  sustain  him  and  his  family,  and  whose 
skins  and  wool  provide  his  clothing.  By  this  time  too  he  has  found 
out  that  it  is  better  to  make  the  captive  whom  he  has  taken  in  war 
into  a  hewer  of  wood  and  drawer  of  water  than  merely  to  obtain  some 
transient  pleasure  from  eating  him  after  putting  him  to  death  by 
torture,  or  by  wearing  his  skull  or  scalp  as  personal  decorations.  This 
is  now  the  pastoral  or  nomad  stage. 

Next  comes  the  more  settled  form  of  life,  when  the  cultivation  of 
land  and  the  production  of  the  various  kinds  of  cereals  render  a  per- 
manent dwelling-place  more  or  less  necessary.  Property  now  consists, 
not  merely  in  slaves  and  domestic  animals,  but  likewise  in  houses  of 
improved  construction,  and  large  stores  of  grain.  Man  now  possesses 
certain  of  the  metals,  gold  and  copper  being  the  first  to  be  known. 
How  does  he  appraise  these  metals  when  he  exchanges  them  with  his 
neighbor  ?  We  shall  find  that  he  estimates  them  in  terms  of  cattle, 
and  that  he  at  first  barters  them  all  by  measures  based  on  the  parts 
of  the  human  body,  a  method  which  continues  to  be  employed  for 
copper  and  iron  long  after  the  art  of  weighing  has  been  invented; 
next  he  estimates  his  gold  by  certain  natural  units  of  capacity  such 
as  a  goosequill,  and  finally  fixes  the  amount  of  gold  which  is  equivalent 
to  a  cow  by  setting  it  in  a  rude  balance  against  a  certain  number  of 
natural  seeds  of  plants. 

Such  is  the  process  which  history  tells  us  has  taken  place  in  the 
temperate  regions  of  Asia  and  Europe,  Africa  and  America.  The 
development  varies  greatly,  however,  with  the  differing  conditions  of 
life  in  different  regions.  In  Arctic  regions  we  find  the  skins  of  certain 
animals  serving  as  units  of  account,  in  spite  of  the  difference  in  value 
between  those  of  different  quality  and  rarity.  In  the  territory  of  the 
Hudson's  Bay  Company,  even  after  the  use  of  coined  money  had  been 
introduced  among  the  Indians,  the  skin  was  still  in  common  use  as 
the  money  of  account.  A  gun  nominally  worth  forty  shillings  brought 
twenty  "skins."  (This  term  is  the  old  one  used  by  the  Company.) 
One  skin  (beaver)  is  supposed  to  be  worth  two  shillings,  and  it  repre- 
sents two  marten,  and  so  on.  "You  heard  a  great  deal  about  skins 
at  Fort  Yukon,  as  the  workmen  were  also  charged  for  clothing,  etc., 
in  this  way."     Similarly  in  the  extreme  north  of  Asia  we  find  some 


58  PRINCIPLES  OF  MONEY  AND  BANKING 

OsUak  tribes  using  the  skin  of  the  Siberian  squirrel  as  their  unit  of 
account.  Among  the  Haidas  and  all  along  the  coast  the  blanket 
now  takes  the  place  of  the  beaver-skin  currency  of  the  interior  of 
Jiritish  Columbia  and  of  the  Northwest  Territory.  The  blankets 
used  in  trade  are  distinguished  by  the  points  or  marks  on  the  edge, 
woven  into  their  texture,  the  best  being  four-point,  the  smallest  and 
poorest  one-point.  The  acknowledged  unit  of  trade  is  a  single  two- 
and-a-half-point  blanket,  now  worth  a  little  over  $1.50.  Every- 
thing is  referred  to  this  unit,  even  a  large  four-point  blanket  is  said 
to  be  worth  so  many  blankets.  There  is  also  the  "  Copper,"  "an  article 
of  purely  conventional  value  and  serving  as  money.  This  is  a  piece 
of  native  metal  beaten  out  into  a  flat  sheet  and  made  to  take  a  peculiar 
shape.  These  are  not  made  by  the  Haidas — nor,  indeed,  is  the  native 
metal  known  to  exist  in  the  islands — but  are  imported  as  articles  of 
great  worth  from  the  Chilcat  country  north  of  Sitka.  Much  atten- 
tion is  paid  to  the  size  and  make  of  the  copper,  which  should  be  of 
uniform  but  not  too  great  thickness,  and  should  give  forth  a  good 
sound  when  struck  with  the  hand.  At  the  present  time  spurious 
coppers  have  come  into  circulation,  and  although  these  are  easily 
detected  by  an  expert,  the  value  of  the  copper  is  somewhat  reduced 
and  is  often  more  nominal  than  real.  Formerly  ten  slaves  were  paid 
for  a  good  copper  as  a  usual  price,  now  they  are  valued  at  from  forty 
to  eighty  blankets."  It  is  obvious  that  such  costly  imported  articles, 
though  now  used  as  occasional  higher  units  of  account — much  as  we 
employ  fifty-pound  notes — must  have  had  some  definite  use,  owing 
to  which  they  were  so  highly  prized.  The  attention  paid  to  their 
tone  would  lead  us  to  conjecture  that  they  were  employed  as  a  kind 
of  gong,  and  further  on  we  shall  find  certain  peoples  of  Further  Asia 
paying  a  large  price  in  buffaloes  for  gongs. 

When  we  turn  to  the  torrid  zone,  where  clothes  are  only  an 
incumbrance  and  nature  lavishly  supplies  plenteous  stores  of  fruits 
and  vegetables,  the  chief  objects  of  desire  will  not  be  food  and  clothing, 
but  ornaments,  implements,  and  weapons.  Hence  w^e  find  amongst 
the  inhabitants  of  such  regions  in  especial  strength  that  passion  for 
personal  adornment,  which  is  one  of  the  most  powerful  and  primitive 
instincts  of^  the  human  race.  Shells  have  from  very  remote  times 
formed  one  of  the  most  simple  forms  of  adornment  in  all  parts  of  the 
world.  Shells  which  once  perhaps  formed  the  necklace  of  some 
beauty  of  the  neoHthic  age  are  found  with  the  remains  of  the  cave 
men  of  Auvergne.     Strings  of  cowries  under  their  various  names  of 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  59 

changes,  zimbis,  bonges,  or  porcelain  shells  are  both  durable,  uni- 
versally esteemed,  and  portable,  and  therefore  suited  to  form  a 
medium  of  exchange,  and  as  such  they  are  employed  in  the  East 
Indies,  Siam,  and  on  the  whole  East  and  West  coasts  of  Africa,  while 
on  the  tropical  coasts  they  serve  the  purposes  of  small  change,  being 
collected  on  the  shores  of  the  maldive  and  Laccadive  islands  and 
exported  for  that  object.  The  relative  value  varies  slightly  according 
to  their  abundance  or  scarcity.  In  India  the  usual  ratio  was  about 
5,000  to  the  rupee.  Marco  Polo  found  the  cowry  in  use  in  the  prov- 
ince of  Yunnam.  He  says,  "  In  Carajan  gold  is  so  abundant  that  they 
give  one  Saggio  of  gold  for  six  of  the  same  weight  of  silver.  And  for 
small  change  they  use  the  porcelain  shell.  These  are  not  found  in 
the  country  but  are  brought  from  India."  How  ancient  is  their  use 
in  Asia  is  shown  by  the  fact  that  Layard  found  cowries  in  the  ruins 
of  Nineveh. 

In  Queen  Charlotte  Islands  the  dentahum  shell  was  recognized 
as  a  medium  of  exchange  by  most  of  the  coast  tribes,  but  not  so  much 
as  a  medium  of  exchange  for  themselves  as  for  barter  with  the  Indians 
of  the  interior. 

Passing  to  the  islands  of  the  Pacific  we  shall  fmd  shell  money 
playing  an  important  part  among  the  primitive  peoples,  such  as  those 
who  inhabit  New  Ireland,  New  Britain,  the  Pelew,  and  the  Caroline 
groups.  It  will  suffice  for  our  purpose  to  describe  the  form  in  which 
it  is  employed  in  New  Britain.  Mr.  Powell  tells  us  that  the  native 
money  in  New  Britain  consists  of  small  cowry  shells  strung  on  strips 
of  cane.  (In  Duke  of  York  Island  it  is  called  Dewarra.)  It  is 
measured  in  lengths,  the  first  length  being  from  hand  to  hand  across 
the  chest  with  arms  extended,  second  length  from  the  center  of  the 
breast  to  the  hand  of  one  arm  extended,  the  third  from  the  shoulder 
to  the  tip  of  the  fingers  along  the  arm,  fourth  from  the  elbow  to  the 
tip  of  the  fingers,  fifth  from  the  wrist  to  the  tip  of  the  fingers,  sixth 
finger  lengths.  Fish  are  generally  bought  by  the  length  in  Dewarra 
unless  they  are  too  small.  A  large  pig  will  cost  from  30  to  40  lengths 
of  the  first  measure  (fathom)  and  a  small  one  10  lengths.  The  De- 
warra is  made  up  for  convenience  in  coils  of  100  fathoms  or  first 
lengths;  sometimes  as  many  as  600  fathoms  arc  coiled  together,  but 
not  often,  as  it  would  be  too  bulky  to  remove  quickly  in  case  of  inva- 
sion or  war,  when  the  women  carry  it  away  to  hide.  These  coils  are 
very  neatly  covered  with  wickcrwork  like  the  bottoms  of  our  cane 
chairs. 


6o  PRINCIPLES  OF  MONEY  AND  BANKING 

At  Moko  and  Utuan  they  use  another  kind  of  money  as  well  as 
this,  the  other  being  a  little  bivalve  shell,  through  which  they  bore 
a  hole  and  string  it  on  pieces  of  native-made  twine.  It  is  also  chipped 
all  round  until  it  is  a  quarter  of  an  inch  in  diameter  and  then  smoothed 
down  into  even  discs  with  sand  and  pumice.  Here  we  find  strings  of 
shells,  which  undoubtedly  in  the  first  instance  were  used  for  personal 
adornment,  converted  into  a  true  currency.  The  simple  savages, 
whose  possessions  were  exceedingly  few  and  scanty,  equated  their 
fish  to  strings  of  shells  which  formed  their  only  ornament,  and  when 
they  got  a  more  valuable  possession  in  the  pig,  they  quickly  learned 
to  appraise  that  animal  in  shell  worth,  just  as  the  North  American 
Indians  learned  to  estimate  the  horse  in  Wampum. 

Instead  of  shells  the  natives  of  Fiji  are  said  to  have  employed 
whales'  teeth  as  currency,  red  teeth  (which  are  still  highly  prized) 
standing  to  white  ones  somewhat  in  the  ratio  of  sovereigns  to  shillings 
with  us. 

Passing  on  to  the  mainland  of  Asia  we  shall  find  that  the  Chinese, 
who  in  the  course  of  ages  have  developed  a  bronze  coinage  of  their 
own  apart  from  the  influences  of  the  Mediterranean  people,  had  in 
early  times  an  elaborate  system  of  shell  money.  Cowries  appear  in 
the  Ya-King,  the  oldest  Chinese  book,  100,000  dead  shellfishes  being 
an  equivalent  for  riches.  Tortoise  of  various  kinds  and  sizes  was 
used  for  the  greater  values  which  would  have  required  too  many 
cowries.  Tortoise  shell  is  still  elegantly  used  to  express  coin.  Several 
kinds  of  Cypraea  were  used,  including  the  purple  shell,  two  or  three 
inches  long;  all  the  shells  except  the  small  ones  were  employed  in 
pairs.  A  writer  of  the  second  century  B.C.  speaks  of  the  purple  shell 
as  ranking  next  after  the  sea  tortoise  shells,  measuring  i  foot  6  inches, 
which  could  only  be  procured  in  Cochin  China  and  Annam,  where 
they  were  used  to  make  pots,  basins,  and  other  valuable  objects. 
So  attached  were  the  Chinese  to  these  primitive  corns  that  the  usurper 
Wangmang  restored  a  shell  currency  of  five  kinds,  tortoise  shell  being 
the  highest.  From  this  time  we  hear  no  more  of  cowries  in  China 
Proper,  but  they  left  traces  of  themselves  in  the  small  copper  coins 
shaped  like  a  small  Cypraea,  called  Dragon's  eye  or  Ant  coins.  It  is 
doubtless  to  a  similar  survival  that  we  owe  those  curious  silver  coins 
made  in  the  shape  of  shells  which  come  from  the  north  of  Burmah  and 
of  which  there  are  several  specimens  in  the  British  Museum.  They 
are  about  the  size  of  a  cowry,  and  doubtless  served  as  a  higher  unit 
in  a  currency  of  which  the  lower  units  were  formed  by  real  shells. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  6i 

Powers  writes  of  the  Karoks  and  other  tribes  of  CaHfornia: 
"For  money  they  make  use  of  the  red  scalps  of  woodpeckers,  which 
rate  at  $2 .  50  to  $5 .  00  a  piece,  and  of  the  dentalium  shell,  of  which 
they  grind  ofif  the  tip,  and  string  it  on  strings.  The  strings  are  usually 
about  as  long  as  a  man's  arm.  It  is  called  al-li-ko-chik  (in  Yarok  this 
signifies  literally  Indian  money)  not  only  on  the  Klamath  but  from 
Crescent  City  to  Eel  River,  though  the  tribes  using  it  speak  several 
different  languages."  Again  he  writes:  "Some  of  the  young  bloods 
array  their  Dulcineas  for  the  dance  with  lavish  adornments,  hanging 
on  their  dress  30,  40,  or  50  dollars  worth  of  dimes,  quarter-dollars, 
and  half-dollars  arranged  in  strings." 

In  685  B.C.  in  parts  of  China  pearls  and  gems,  gold,  knives,  and 
cloth  were  the  money,  and  under  the  Shou  dynasty  (i  100  B.C.)  we 
understand  from  ancient  commentaries  that  the  gold  circulated  in 
little  cubes  of  a  square  inch,  and  the  copper  in  round,  tongue-like 
plates  by  the  tchin  tchu,  while  the  silk  cloth  2  feet  2  inches  wide  in 
rolls  of  40  feet  formed  a  piece. 

The  Chinese  likewise  used  hoes  as  money,  just  as  we  shall  find  the 
wild  people  of  Annam  doing  at  the  present  hour.  But  in  the  course 
of  time  the  hoe  became  a  true  currency,  and  little  hoes  were  em- 
ployed as  coins  in  some  parts  of  China.  In  Marco  Polo's  time 
cowries  were  in  full  use,  as  in  the  province  of  Yunnam. 

On  the  borders  of  China  and  Tibet  we  may  still  find  a  state  of 
things  not  far  removed  from  that  existing  in  the  China  of  2,000  years 
ago.  The  Tibetans,  who  in  recent  years  employ  Indian  rupees,  for 
purposes  of  small  change  cut  up  these  coins  into  little  pieces,  which 
are  weighed  by  the  careful  Chinese,  but  the  Tibetans  do  not  seem 
to  use  the  scale,  and  roughly  judge  of  the  value  of  a  piece  of  silver. 
Tea,  moreover,  and  beads  of  turquoise  are  largely  used  as  a  means 
of  payment  instead  of  metal. 

Among  the  fishermen  who  dwelt  along  the  shores  of  tlie  Indian 
Ocean,  from  the  Persian  Gulf  to  the  southern  shores  of  Hindustan, 
Ceylon,  and  tlie  Maldive  Islands,  it  would  appear  that  the  fishhook, 
to  them  the  most  important  of  all  implements,  passed  as  currency. 
In  the  course  of  time  it  became  a  true  money,  just  as  did  the  hoe  in 
China. 

Advancing  westward  we  find  tlic  Ossetes  of  the  Caucasus  at  the 
present  moment  employ  the  cow  as  their  unit  of  value,  the  prices  of 
all  commodities  being  stated  as  one,  two,  three,  or  four  cows,  or  even 
at  one-tenth  or  one-hundredth  of  the  value  of  a  cow.     The  ox  is 


62  PRINCIPLES  OF  MONEY  AND  BANKING 

worth  two  cows,  and  the  cow  is  worth  ten  sheep.  This  people  regu- 
late compensation  for  wounds  thus:  they  measure  the  length  of  the 
wound  in  barley  corns,  and  for  every  barley  corn  which  it  measures 
a  cow  has  to  be  paid.  We  have  little  doubt  that  over  all  Hither  Asia 
the  same  method  of  employing  the  cow  as  the  principal  unit  of  value 
obtained.  It  is  that  which  we  found  among  the  Greeks  of  the  Homeric 
poems,  who  were  in  full  contact  with  Northern  Asia  Minor,  and  was 
almost  certainly  that  of  the  Semites  who  dealt  in  the  South.  Just  as 
we  find  the  buffalo,  and  the  pots,  bronze  platters,  arrows,  lances,  and 
hoes  standing  side  by  side  in  well-defined  mutual  relation  among  the 
Bahnars  of  Cochin  China,  so  we  find  in  Homer  that  whilst  the  cow  is 
the  principal  unit,  the  slave  is  employed  as  an  occasional  higher  unit, 
and  the  kettle  (lebes),  the  pot  (tripous),  the  ax  and  the  half -ax, 
hides,  raw  copper,  and  pig  iron  stand  beside  the  cow  as  multiples  or 
sub-multiples.  When  Ajax  and  Idomeneus  make  a  bet  on  the  issue 
of  the  chariot  race,  the  proposed  wager  is  a  pot  or  a  kettle,  whilst 
from  another  passage  we  learn  that  the  usual  prizes  given  at  the 
fimeral  games  of  a  chieftain  were  female  slaves  and  pots  (tripods). 
Gold  and  silver  were  early  employed  by  the  people  of  Northern 
Europe  in  the  form  of  rings. 

38.     CATTLE  AS  MONEY' 
By  homer 

Then  Peleus'  son  ordained  straightway  the  prizes  for  a  third  con- 
test, offering  them  to  the  Danaans,  for  the  grievous  wrestling  match: 
for  the  winner  a  great  tripod  for  standing  on  the  fire,  prized  by  the 
Achaians  among  them  at  twelve  oxen's  worth;  and  for  the  loser  he 
brought  a  woman  into  their  midst,  skilled  in  manifold  work,  and  they 
prized  her  at  four  oxen. 

39.  EARLY  CURRENCY  OF  THE  AMERICAN  COLONIES' 
By  HORACE  WHITE 

The  first  settlers  of  New  England  found  wampumpeage,  some- 
times called  wampum  and  sometimes  peage,  in  use  among  the  abo- 
rigines as  an  article  of  adornment  and  a  medium  of  exchange.  It 
consisted  of  beads  made  from  the  inner  whorls  of  certain  shells  found 

'  Iliad,  book  xxiii. 

'  Adapted  from  Money  and  Banking,  pp.  3-9.     (Ginn  &  Co.,  1895.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  63 

in  sea  water.  The  beads  were  polished  and  strung  together  in  belts 
or  sashes.  They  were  of  two  colors,  black  and  white,  the  black  being 
double  the  value  of  the  white.  The  early  settlers  of  New  England, 
finding  that  the  fur  trade  with  the  Indians  could  be  carried  on  with 
wampum,  easily  fell  into  the  habit  of  using  it  as  money.  It  was 
practically  redeemable  in  beaver  skins,  which  were  in  constant  demand 
in  Europe.  The  unit  of  wampum  money  was  the  fathom,  consisting 
of  360  white  beads  worth  six  pence  the  fathom.  In  1648  Connecticut 
decreed  that  wampum  should  be  "strung  suitably  and  not  small  and 
great  uncomely  and  disorderly  mixt  as  formerly  it  hath  been."  Four 
white  beads  passed  as  the  equivalent  of  a  penny  in  Connecticut, 
although  sbc  were  usually  required  in  Massachusetts  and  sometimes 
eight.  In  the  latter  colony  wampum  was  at  first  made  legally  receiv- 
able for  debts  for  the  amount  of  iid.  only.  In  164 1  the  limit  was 
raised  to  £10,  but  only  for  two  years.  It  was  then  reduced  to  40<>.  It 
was  not  receivable  for  taxes  in  Massachusetts.  The  use  of  wampum 
money  extended  southward  as  far  as  Virginia. 

The  decline  of  the  beaver  trade  brought  wampum  money  into 
disrepute.  When  it  ceased  to  be  exchangeable  in  large  sums  for  an 
article  of  international  trade  the  basis  of  its  value  was  gone.  More- 
over it  was  extensively  counterfeited,  and  the  white  beads  were  turned 
into  the  more  valuable  black  ones  by  dyeing.  Nevertheless  it  lingered 
in  the  currency  of  the  colonies  as  small  change  till  the  early  years  of 
the  eighteenth  century.  WTiile  it  was  in  use  it  fluctuated  greatly  in 
value. 

The  first  General  Assembly  of  Virginia  met  at  Jamestown  Jul\- 
31,  16 19,  and  the  first  law  passed  was  one  fixing  the  price  of  tobacco 
"at  three  shillings  the  beste,  and  the  second  sorte  at  igd.  thepounde." 
Tobacco  was  already  the  local  currency.  In  1642  an  act  was  passed 
forbidding  the  making  of  contracts  payable  in  money,  thus  virtually 
making  tobacco  the  sole  currency.  The  act  of  1642  was  repealed 
in  1656,  but  nearly  all  the  trading  in  the  province  continued  to  be 
done  with  tobacco  as  the  medium  of  exchange. 

In  1628  the  price  of  tobacco  in  silver  had  been  35.  dd.  per  pound 
in  Virginia.  The  cultivation  increased  so  rapidly  that  in  163 1  the 
price  had  fallen  to  6d.  In  order  to  raise  the  price,  steps  were  taken 
to  restrict  the  amount  grown  and  to  improve  the  quality.  The  right 
to  cultivate  tobacco  was  restricted  to  1,500  plants  per  poll.  Car- 
penters and  other  mechanics  were  not  allowed  to  plant  tobacco  "or 
to  do  any  other  work  in  the  ground."     These  measures  were  inclTective. 


64  PRINCIPLES  OF  MONEY  AND  BANKING 

The  price  continued  to  fall.  In  1639  it  was  only  ^d.  It  was  now 
enacted  that  half  of  the  good  and  all  of  the  bad  should  be  destroyed, 
and  that  thereafter  all  creditors  should  accept  40  pounds  for  100;  that 
the  crop  of  1640  should  not  be  sold  for  less  than  i2d.,  nor  that  in  1641 
for  less  than  2s.  per  pound,  under  penalty  of  forfeiture  of  the  whole 
crop.  This  law  was  ineffectual  as  the  previous  ones  had  been, 
but  it  caused  much  injustice  between  debtors  and  creditors  by  impair- 
ing the  obligation  of  existing  contracts.  In  1645  tobacco  was  worth 
only  i^d.  and  in  1665  only  id.  per  pound. 

In  the  year  1666  a  treaty  was  negotiated  and  ratified  between  the 
colonies  of  Maryland,  Virginia,  and  Carolina,  to  stop  planting  tobacco 
for  one  year  in  order  to  raise  the  price.  This  temporary  suspension 
of  planting  made  necessary  some  other  mode  of  paying  debts.  It 
was  accordingly  enacted  that  both  public  dues  and  private  debts 
falling  due  "in  the  vacant  year  from  planting"  might  be  paid 
in  country  produce  at  specified  rates. 

In  1683  an  extraordinary  series  of  occurrences  grew  out  of  the 
low  price  of  tobacco.  Many  people  signed  petitions  for  a  cessation  of 
planting  for  one  year  for  the  purpose  of  increasing  the  price.  As  the 
request  was  not  granted,  they  banded  themselves  together  and  went 
through  the  country  destroying  tobacco  plants  wherever  found.  The 
evil  reached  such  proportions  that  in  April,  1684,  the  Assembly 
passed  a  law  declaring  that  these  malefactors  had  passed  beyond  the 
bounds  of  riot,  and  that  their  aim  was  the  subversion  of  the  govern- 
ment. It  was  enacted  that  if  any  persons,  to  the  number  of  eight  or 
more,  should  go  about  destroying  tobacco  plants,  they  should  be 
adjudged  traitors  and  suffer  death. 

In  1727  tobacco  notes  were  legalized.  These  were  in  the  nature 
of  certificates  of  deposit  in  government  warehouses  issued  by  official 
inspectors.  They  were  declared  by  law  current  and  payable  for  all 
tobacco  debts  within  the  warehouse  district  w^here  they  were  issued. 
They  supply  an  early  example  of  the  distinction  between  money  on 
the  one  hand,  and  government  notes,  or  bank  notes,  on  the  other. 
The  tobacco  in  the  warehouses  was  the  real  medium  of  exchange. 
The  tobacco  notes  were  orders  payable  to  bearer  for  the  dehvery  of 
this  money.  They  were  redeemable  in  tobacco  of  a  particular 
grade,  but  not  in  any  specified  lots.  Counterfeiting  the  notes  was 
made  a  felony.  In  1734  another  variety  of  currency  called  "crop 
notes"  was  introduced.  These  were  issued  for  particular  casks  of 
tobacco,  each  cask  being  branded  and  the  marks  specified  on  the  notes. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  65 

The  circulating  medium  of  the  New  England  colonies  was  quite  as 
fantastic  as  that  of  Virginia.  Merchantable  beaver  was  legally 
receivable  for  debts  at  105.  per  pound.  In  163 1  the  General  Court 
of  Massachusetts  ordered  that  corn  should  pass  for  the  payment  of 
all  debts  at  the  price  it  was  usually  sold  for,  unless  money  or  beaver 
skins  were  expressly  stipulated.  In  other  words,  a  debt  payable  in 
pounds,  shillings,  and  pence  might  be  paid  at  the  debtor's  option  in 
any  one  of  three  ways:  in  corn  at  the  market  price,  in  beaver  at  los. 
per  pound,  or  in  the  metallic  money  of  England.  For  more  than  half 
a  century  this  order  continued  in  force  and  operation,  other  things 
being  added  to  the  list  from  time  to  time. 

In  1675,  during  King  Philip's  war,  the  need  of  metallic  money 
for  public  use  was  so  great  that  a  deduction  of  50  per  cent  was  offered 
on  all  taxes  so  paid. 

The  first  local  currency  of  New  Netherlands  was  wampum,  but 
it  was  subordinate  to  the  silver  coinage  of  the  mother-country;  that 
is,  it  was  reckoned  in  terms  of  that  coinage  as  fixed  by  the  Dutch 
West  India  Company  from  time  to  time.  It  was  first  fixed  at  six 
white  beads  for  a  stiver.  Wampum  was  not  made  in  the  province, 
but  was  imported  from  the  east  end  of  Long  Island,  the  principal  seat 
of  production.  It  is  mentioned  in  a  letter  from  the  Patrons  of  New 
Netherlands  to  the  States  General  in  June,  1634,  as  "being  in  a 
manner  the  currency  of  the  country  with  which  the  produce  of  the 
country  is  paid  for,"  the  produce  of  the  country  being  furs. 

Beaver  soon  became  current  here,  as  in  New  England,  and  for  the 
same  reason,  its  currency  value  being  fixed  by  the  company  at  8 
florins  per  skin.  As  6  wampum  beads  were  equal  to  i  stiver  and  20 
stivers  to  i  florin,  and  8  florins  to  i  skin,  the  ratio  of  wampum  to 
beaver  was  960  to  i.  The  market  ratio  did  not  coincide  with  the 
legal  ratio  very  long.  Nor  was  the  legal  ratio  of  either  wampum  or 
beaver  to  silver  maintained. 

In  1 7 19  the  Assembly  of  South  Carolina  made  rice  receivable  for 
taxes,  "to  be  delivered  in  good  barrels  upon  the  bay  in  Charlestown." 
In  the  following  year  a  tax  of  1,200,000  lb.  of  rice  was  levied,  and 
commissioners  were  appointed  to  issue  rice  orders  to  public  creditors, 
in  anticipation  of  collection,  at  the  rate  of  30A-.  per  100  11).  in  tlic 
following  form:  "This  order  entitles  the  bearer  to  one  hundred  weight 
of  well-cleaned  merchantable  rice  to  be  paid  to  the  commissioners  that 
receive  the  tax  on  the  second  Tuesday  in  March,  1723."  Rice  orders 
were  receival)le  for  all  purposes,  and  counterfeiting  was  made  felony 
without  benefit  of  clergy. 


6()  PRINCIPLES  OF  MONEY  AND  BANKING 

In  eastern  Tennessee  and  Kentucky,  early  in  the  nineteenth 
century,  deerskins  and  raccoon  skins  were  receivable  for  taxes  and 
served  the  purpose  of  currency. 

When  California  was  first  invaded  by  gold-seekers  there  were 
a  few  Mexican  coins  in  circulation  there,  not  nearly  sufficient  to  an- 
swer the  needs  of  the  growing  community.  The  immigrants  brought 
more  or  less  metallic  money  with  them.  The  smaller  coins  were  those 
of  many  different  countries,  chiefly  Spanish.  For  want  of  sufficient 
coins,  the  first  trading  was  done  largely  with  gold  dust,  sometimes  by 
weighing  it  in  scales,  and  sometimes  by  guesswork.  A  "pinch"  of 
gold  dust  about  as  large  as  a  pinch  of  snuff  had  a  current  value  and 
was  common  measure  in  places  where  there  was  no  means  of  weigh- 
ing. At  a  public  meeting  in  San  Francisco,  September  9,  1848,  it 
was  resolved  by  unanimous  vote  that  $i6  per  ounce  was  a  fair  price 
for  placer  gold.  This  rate  was  at  once  adopted  in  all  business  trans- 
actions.    By  and  by  private  coiners  of  gold  came  into  the  field. 


C.    The  Use  of  Metals  as  Money 

40.    EVOLUTION  OF  THE  PRECIOUS  METALS* 
By  KARL  MENGER 

The  reason  why  the  precious  metals  had  become  the  generally 
current  medium  of  exchange  among  here  and  there  a  nation  prior  to 
its  appearance  in  history,  and  in  the  sequel  among  all  peoples  of 
advanced  economic  civilization,  is  because  their  salableness  is  far 
and  away  superior  to  that  of  all  other  commodities,  and  at  the  same 
time  because  they  are  found  to  be  specifically  qualified  for  the  con- 
comitant and  subsidiary  functions  of  money. 

There  is  no  center  of  population  which  has  not  in  the  very 
beginnings  of  civilization  come  keenly  to  desire  and  eagerly  to  covet 
the  precious  metals — in  primitive  times  for  their  utility  and  peculiar 
beauty  as  in  themselves  ornamental,  subsequently  as  the  choicest 
materials  for  plastic  and  architectural  decoration,  and  especially  for 
ornaments  and  vessels  of  every  kind.  In  spite  of  their  natural 
scarcity,  they  are  well  distributed  geographically,  and,  in  proportion 
to  most  other  metals,  are  easy  to  extract  and  elaborate.  Further, 
the  ratio  of  the  available  quantity  of  the  precious  metals  to  the  total 
requirement  is  so  small  that  the  number  of  those  whose  need  of  them 

•  Adapted  from  "The  Origin  of  Money,"  Economic  Journal,  II  (1892),  252-55. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  67 

is  unsupplied,  or  at  least  insufficiently  supplied,  together  with  extent 
of  this  unsupplied  need,  is  always  relatively  large — larger  more  or 
less  than  in  the  case  of  other  more  important  though  more  abundantly 
available  commodities.  In  no  national  economy  which  has  advanced 
beyond  the  first  stages  of  development  are  there  any  commodities 
the  salableness  of  which  is  so  Httle  restricted  in  such  a  number  of 
respects — personally,  quantitatively,  spatially,  and  temporally — 
as  the  precious  metals.  It  cannot  be  doubted  that,  long  before  they 
had  become  the  generally  acknowledged  media  of  exchange,  they 
were,  amongst  very  many  peoples,  meeting  a  positive  and  effective 
demand  at  all  times  and  places,  and  practically  in  any  quantity  that 
found  its  way  to  market. 

Under  such  circumstances  it  became  the  leading  idea  in  the  minds 
of  the  more  intelligent  bargainers,  and  then,  as  the  situation  came 
to  be  more  generally  understood,  in  the  minds  of  ever>'one,  that  the 
stock  of  goods  destined  to  be  exchanged  for  other  goods  must  in  the 
first  instance  be  laid  out  in  precious  metals,  or  must  be  converted 
into  them,  even  if  the  agent  in  question  did  not  directly  need  them,  or 
had  already  supplied  his  wants  in  that  direction.  But  in  and  by  this 
function,  the  precious  metals  are  already  constituted  generally  cur- 
rent media  of  exchange.  In  other  words,  they  hereby  function  as 
commodities  for  which  everyone  seeks  to  exchange  his  market  goods. 

41.    SUPERIORITY  OF  GOLD  AND  SILVER' 
By  W.  STANLEY  JEVONS 

a)  Silver. — I  need  hardly  say  that  silver  is  distinguished  by  its 
exquisite  white  lustre,  which  is  not  rivalled  by  that  of  any  other  pure 
metal.  Certain  alloys,  indeed,  such  as  speculum  metal,  or  Britannia 
metal,  have  been  made  of  almost  equal  lustre,  but  they  are  either 
brittle,  or  so  soft  as  not  to  give  the  metallic  ring  of  silver.  When 
much  exposed  to  the  air  silver  tarnishes  by  the  formation  of  a  black 
film  of  silver  sulphide;  but  this  forms  no  obstacle  to' its  use  as  currency, 
since  the  film  is  always  very  thin,  and  its  peculiar  black  colour  even 
assists  in  distinguishing  the  pure  metal  from  counterfeit.  When 
suitably  alloyed,  silver  is  sufficiently  hard  to  stand  much  wear,  and 
next  after  gold  it  is  the  most  malleable  and  impressible  of  all  the 
metals. 

'  Adapted  from  Money  and  the  Mechanism  of  Exchange  (1875),  PP-  45~47- 
(D.  Appleton  &  Co.) 


68  PRINCIPLES  OF  MONEY  AND  BANKING 

A  coin  or  other  object  made  of  silver  may  be  known  by  the  follow- 
ing marks:  (i)  a  fme  pure  white  lustre,  where  newly  rubbed  or 
scraped;  (2)  a  blackish  tint  where  the  surface  has  long  been  exposed 
to  tlie  air;  (3)  a  moderate  specific  gravity;  (4)  a  good  metallic  ring 
when  thrown  down;  (5)  considerable  hardness;  (6)  strong  nitric 
acid  dissolves  silver,  and  the  solution  turns  black  if  exposed  to  light. 

Silver  has  been  coined,  it  need  hardly  be  said,  in  all  ages  since 
the  first  invention  of  the  art,  and  its  value  relatively  to  gold  and 
copper  suits  it  for  taking  the  middle  place  in  a  monetary  system.  Its 
value  too  remains  very  stable  for  periods  of  fifty  or  a  hundred  years, 
because  a  vast  stock  of  the  metal  is  kept  in  the  form  of  plate,  watches, 
jewellery,  and  ornaments  of  various  kinds,  in  addition  to  money,  so 
that  a  variation  in  the  supply  for  a  few  years  cannot  make  any  appre- 
ciable change  in  the  total  stock.  Productive  silver  mines  exist  in 
almost  all  parts  of  the  world,  and  wherever  lead  is  produced  a  small 
but  steady  yield  of  silver  is  obtained  from  it  by  the  Pattinson  method 
of  extraction. 

b)  Gold. — Silver  is  beautiful,  yet  gold  is  even  more  beautiful,  and 
presents  indeed  a  combination  of  useful  and  striking  properties  quite 
without  parallel  among  known  substances.  To  a  rich  and  brilliant 
yellow  colour,  which  can  only  be  adequately  described  as  golden,  it 
joins  astonishing  malleability  and  a  very  high  specific  gravity, 
exceeded  only  by  that  of  platinum  and  a  few  of  the  rarest  or  almost 
unknown  metals.  We  can  usually  ascertain  whether  a  coin  consists 
of  gold  or  not  by  looking  for  three  characteristic  marks:  (i)  the 
brilliant  yellow  colour;  (2)  the  high  specific  gravity;  (3)  the  metallic 
ring  of  the  coin  when  thrown  down,  which  will  prove  the  absence  of 
lead  or  platinum  in  the  interior  of  the  coin. 

If  there  remain  any  doubt  about  a  metal  being  gold,  we  have  only 
to  appeal  to  its  solubility.  Gold  is  remarkable  for  its  freedom  from 
corrosion  or  solution,  being  quite  unaffected  and  untarnished  after 
exposure  for  any  length  of  time  to  dry,  or  moist,  or  impure  air,  and 
being  also  insoluble  in  all  the  simple  acids.  Strong  nitric  acid  will 
rapidly  attack  any  coloured  counterfeit  metal,  but  will  not  touch 
standard  gold,  or  will,  at  the  most,  feebly  dissolve  the  copper  and 
silver  alloyed  with  it. 

In  abnost  all  respects  gold  is  perfectly  suited  for  coining.  WTien 
quite  pure,  indeed,  it  is  almost  as  soft  as  tin,  but  when  alloyed  with 
one-tenth  or  one-twelfth  part  of  copper,  becomes  sufficiently  hard  to 
resist  wear  and  tear,  and  to  give  a  good  metallic  ring;  yet  it  remains 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  69 

perfectly  malleable  and  takes  a  fine  impression.  Its  melting-point 
is  moderately  high,  and  yet  there  is  no  perceptible  oxidation  or  vola- 
tilization of  the  metal  at  the  highest  temperature  which  can  be  pro- 
duced in  a  furnace.  Thus,  old  coin  and  fragments  of  the  metal  can 
be  melted  into  bullion  at  a  very  slight  loss,  and  at  a  cost  of  not  more 
than  one  halfpenny  per  ounce  troy,  or  little  more  than  one- twentieth 
of  I  per  cent. 

42.    A  MONETARY  CHRONOLOGY' 

The  main  events  in  the  history  of  money  may  be  summarized  as 
follows.  The  legislative  acts  in  various  countries  leading  to  the 
adoption  of  a  single  gold  standard  are  omitted, 

B.C. 

i860    Abraham's  purchase  of  land  for  400  shekels  of  silver,  weighed  out 
as  "current  money  with  the  merchant,"  is  an  early  illustration  of  the 
use  of  silver  by  weight  as  money  long  before  the  introduction  of 
coinage. 
1 594    Cadmus  mined  gold  in  Thrace. 

1400     Gold  and  silver  used  as  money  in  Egypt,  India,  and  Arabia. 
HOC     Money  of  China  consisted  of  cubes  of  gold,  round  plates  of  copper, 

and  rolls  of  silk  cloth. 
800    Homeric  poems  show  no   trace  of  coined  money.    There   were, 
however,  two  units  of  value:   (i)  the  cow;  (2)  the  talent — supposed 
to  be  a  certain  weight  of  gold. 
500    Silver  coins  were  current  in  Thrace  and  Macedon  about  this  time. 
480-206  Silver  mines  in  Spain  were  worked  by  the  Carthaginians. 
450    Herodotus  stated  the  ratio  of  silver  to  gold  to  be  13  to  i  in  Greece. 
400    Dionysius  called  tin  equivalent  to  silver;    his  was  probably  the 
earliest  instance  of  debasement  of  coinage  and  of  a  legal-tender  act 
to  force  base  coin  into  circulation. 
60    Ratio  of  silver  to  gold  in  Rome,  9  to  i. 

A.D. 

14  Amount  of  precious  metals  in  the  civilized  world  estimated  by 
Jacob  to  have  been  $1,800,000,000.  The  drain  to  the  East  began 
at  this  period. 
800  Total  supply  of  precious  metals  estimated  by  Jacob  to  have  been 
reduced  by  abrasion  to  about  $165,000,000.  At  this  time  the 
Moors  reopened  the  mines  in  Spain.  iMincs  discovered  in  Sa.xony, 
Harz  Mountains,  and  in  Austria.  Supply  of  precious  metals 
remained  about  stationary  until  the  discovery  of  America. 

'  Adapted  from  Sound  Currency,  VI  (1899),  33-47. 


70  PRINCIPLES  OF  MONEY  AND  HANKING 

A.D. 

1252  Gold  was  minted  in  Florence,  Italy — it  practically  having  gone  out 
of  use  with  the  fall  of  the  Roman  Empire. 

•1257  Gold  first  coined  in  England.  The  first  pieces  weighed  as  much  as 
two  silver  pennies,  and  were  ordered  to  pass  for  20  pence. 

1295  Coinage  of  gold  in  France  first  became  important,  though  in  1265 
some  was  being  coined  and  as  far  back  as  ii8d  gold  coins  were 
minted,  probably  for  use  as  medals  or  decorations. 

1328  Gold  first  coined  in  Germany  about  this  year,  the  first  pieces  being 
in  imitation  of  the  florin  of  Florence,  which  weighed  53  grains. 

1344  The  King  of  England  proclaimed  the  ratio  of  silver  to  gold  to  be 
12.61  to  I.  About  this  time  gold  coinage  first  became  of  monetary 
importance  in  England. 

1474  Commerical  ratio  of  silver  to  gold  in  England  was  11. 15  to  i;  in 
Germany,  11. 12;  in  France,  11;  in  Italy,  10.58;  in  Spain,  9.82. 

1492  Discovery  of  America  by  Columbus  and  the  finding  of  gold  in  con- 
siderable quantity  among  the  natives  of  the  islands  he  reached. 

1522  The  first  silver  sent  to  Europe  from  the  mines  of  Mexico  was  obtained 
from  Tasco,  discovered  by  the  Spaniards  this  year.  These  mines, 
together  with  those  of  Pachuca,  are  considered  the  oldest  in  Mexico, 
some  of  them  having  been  long  worked  by  the  Aztecs  at  the  time 
of  the  arrival  of  the  Spaniards. 

1532  Conquest  of  Peru  by  Francisco  Pizarro.  Its  mines  were  soon 
supplying  a  large  portion  of  the  world's  sUver. 

1 545     Discovery  of  the  famous  silver  mines  of  Potosi,  Bolivia. 

1548     First  discovery  of  silver  at  Guanajuato,  Mexico. 

1571  The  Huancevalica  quicksilver  mines  in  Peru  first  began  to  produce 
in  noteworthy  quantity.  This  was  an  important  event,  as  an 
abundant  supply  of  mercury  for  the  amalgamation  of  Potosi  ore 
was  thus  obtained. 

1 596-1614  Coinage  system  established  in  Japan.  Gold,  silver,  and  copper 
were  coined. 

1666  Mints  of  England  opened  to  the  free  coinage  of  gold  and  silver  in 
unlimited  quantities  at  the  ratio  of  15  to  i. 

1762    Discovery  of  the  great  silver  bonanza  of  Real  del  Monte,  Mexico. 

1774  The  first  gold  placer  mines  in  the  Ural  Mountains  were  discovered 
this  year. 

1785  France  ordered  a  recoinage  of  her  gold  and  placed  the  ratio  at 
I  si  to  I.     This  ratio  was  affirmed  by  statute  of  1803. 

1792  April  2,  establishment  of  the  United  States  mint  with  free  and 
gratuitous  coinage  of  both  gold  and  silver  at  the  ratio  of  15  to  i. 

1792  The  famous  bonanza  at  Sombrerete,  Zacatecas,  Mexico,  was  dis- 
covered this  vear. 


THE  OIUGIN  AND  DEVELOPMENT  OF  MONEY  71 

A.D. 

1793  Mules  and  horses  were  used  in  Mexico,  for  the  first  time,  for  mixing 
the  pulp,  mercury,  and  chemicals  in  the  patio  process,  saving  75 
per  cent  in  the  cost  of  this  branch  of  working;  prior  to  this  time, 
the  operation  had  been  performed  entirely  by  human  labor. 

1829  Discovery  of  gold  mines  in  Georgia;  first  mining  excitement  in  the 
United  States. 

1830  Discovery  of  the  placers  of  the  Altai  Mountains,  Siberia. 
1840     Increased  production  of  gold  in  Russia. 

1843  The  August  in  process  of  working  silver  ores  was  introduced  at  the 
Gottesbelohnung  Hiittcn,  near  Mansfield,  Germany,  and  later  in 
the  year  at  the  Freiberg  works. 

1848  On  January  19,  Marshall  discovered  gold  at  Coloma,  California. 
Beginning  of  tht;  gold  era. 

1849  Discovery  of  gold  in  Gold  Canon,  Nevada;  this  eventually  led  to 
the  discovery  of  the  Comstock  lode. 

185 1     Discovery  of  gold  in  Australia  by  Hargreaves. 

1853     Maximum  production  of  gold  reached  in  California — $65,000,000. 

1857     Discovery  of  gold  in  New  Zealand. 

1859    The  Comstock  silver  lode,  Nevada,  was  discovered. 

1859  Discovery  of  gold  in  the  Fraser  River  region,  British  Columbia. 
Pike's  Peak  excitement;  discovery  of  gold  placers  in  Gilpin  County, 
Colorado,  in  California  Gulch,  and  at  Breckenridge. 

1868  Discovery  of  gold  in  Western  Australia,  but  it  was  not  until  1887 
that  any  diggings  of  importance  were  found. 

1869  Discovery  of  the  important  silver-lead  deposits  of  Eureka,  Nevada. 
The  American  practice  of  lead  smelting  has  been  developed  chiefly 
from  the  methods  adopted  in  this  district. 

1869     Sutro  tunnel  to  open  the  Comstock  lode  was  commenced  October  19. 

1873  Discovery  of  the  "Big  Bonanza"  in  the  Consolidated  California 
and  Virginia  mines  on  the  Comstock  lode. 

1874  A  year  of  great  excitement  on  the  Comstock  lode,  the  "Big  Bonanza" 
beginning  to  yield  largely,  while  another  l^onanza  was  discovered  in 
the  Ophir  mine. 

1878  Great  excitement  at  Leadville,  Colorado,  where  many  new  dis- 
coveries were  made. 

1884     Discovery  of  gold  in  DcKaap  district  of  the  Transvaal,  South  .Africa. 

1885-90  Numerous  discoveries  of  gold  in  South  .Africa.  West  Australia, 
and  Colorado. 

1891  The  perfecting  of  the  cyanide  process.  This  greatly  reduced  the 
cost  of  extracting  ores,  making  possible  the  continued  working  of 
old  mines  and  of  many  low-grade  deposits.  It  is  maiiily  resjwnsiljle 
for  the  enormous  increa.se  of  gold  production  in  the  i)rtsent  gen- 
eration. 

1897     Klondike  gold  fields  discovered. 


72  PRINCIPLES  OF  MONEY  AND  BANKING 

43.    THE  BEGINNINGS  OF  EUROPEAN  MONETARY 
HISTORY' 

By  W.  A.  SHAW 

The  monetary  history  of  Europe  begins  in  the  thirteenth  century, 
and  in  the  ItaHan  peninsula.  Its  starting-point  is  the  era  of  the 
reintroduction  of  gold  into  the  coinages  of  the  Western  nations,  and 
is  definitely  marked  for  us  by  the  minting  of  the  gold  florin  of  Florence 
in  1252.  For  all  practical  purposes  gold  had  gone  out  of  use  since 
the  seventh  century,  and  after  the  submersion  of  the  Roman  Empire; 
and  the  currencies  of  the  nations  of  mediaeval  Europe  rested  on  a  silver 
basis  entirely. 

The  explanation  of  the  reintroduction  and  recoinage  of  gold  is  to 
be  found  in  the  history  of  the  Crusades  and  of  the  commercial  growth 
of  the  petty  independent  states  which  sprang  from  the  political  confu- 
sion of  Italy.  No  sooner  had  they  achieved  each  their  little  autono- 
mous existence  than  they  threw  themselves  with  feverish  activity 
into  the  development  of  trade  with  the  East.  Florence  and  Venice, 
Pisa  and  Genoa,  led  the  way  and  reaped  the  fruits;  and  it  was  in  her 
most  flourishing  time,  when  she  had  conquered  her  rivals,  Pisa  and 
Siena,  and  was  enjoying  a  prosperous  peace  and  active  trade,  that 
Florence,  at  the  instance  of  the  chief  of  her  merchants,  resolved  on 
the  coining  of  the  gold  florin. 

The  mere  idea  of  such  a  gold  coinage  could  only  be  derived  from 
the  East,  from  Byzantium.  But  it  is  a  curious  fact  that  the  impor- 
tation of  it  should  be  due  in  the  first  place  to  the  Crusades.  Frederick 
n  of  Italy  was  elected  Emperor  of  the  Holy  Roman  Empire  in  1212. 
Sixteen  years  later  he  headed  the  Fifth  Crusade,  and  the  gold  coin 
(Augustale)  which  he  issued  sometime  between  his  return  from  that 
crusade  and  his  death  probably  commemorates  his  wish  to  rival  the 
appearance  of  opulence  of  the  Eastern  court.  This  Sicilian  coin  is 
the  direct  ancestor  of  the  florin  of  Florence,  and  to  it  would  fitly 
belong  the  honor  of  leading  in  a  new  era,  were  it  not  that  the  superior 
beauty  gave  it  universal  currency  and  reputation  and  extinguished 
the  memory  of  its  predecessor. 

Two  conditions  were  essential  to  bringing  about  so  momentous 
a  revolution  as  this,  however  little  the  mind  of  contemporaries  may 
have  known  it  as  such.  In  the  first  place,  the  foreign  trade  of  the 
Italian  republics  must  have  become  so  extensive  as  to  demand  a  cur- 
rency medium  of  higher  denomination  than  silver;  and  secondly,  that 
trade  must  have  developed  in  such  directions  as  to  tap  gold-using 

'  Adapted  from  TheHislory  of  Currency,  pp.  1-14.     (G.  P.  Putnam'sSons,  1896.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  73 

or  gold-bearing  regions  in  order  to  supply  the  Italian  mints.  It  is 
a  curious  fact  that  both  these  conditions  were  realized  through  the 
instrumentality  of  the  Crusades.  The  quickening  effect  of  these 
vast  movements  on  the  trade  of  the  Mediterranean  is  well  known,  but 
their  influence  in  the  second  direction  has  not  hitherto  been  pointed 
out.  In  the  Fourth  Crusade  Venice  lent  the  force  which  captured 
Byzantium  (1203),  and  when,  by  her  arms,  Baldwin,  Count  of 
Flanders,  had  been  seated  on  the  Eastern  throne,  Venice  reaped  her 
reward  in  three-eighths  of  the  territories  of  the  Eastern  Empire.  She 
received  Peloponnesus  and  a  chain  of  islands  in  the  Aegean,  and  by 
the  hold  she  had  on  Constantinople  secured  the  virtual  control  of  the 
Black  Sea.  In  its  turn  the  control  of  the  Black  Sea  brought  with  it 
the  monopoly  of  the  overland  trade  with  India. 

At  one  and  the  same  moment,  therefore,  Venice  acquired  pos- 
session of  a  huge  treasure  of  gold  wrested  from  the  conquered  city, 
and  of  the  then  only  gold-yielding  districts — the  Crimea — and  of  an 
intercolonial  trade,  demanding  a  more  enhanced  currency  medium. 
The  result  of  such  a  combination  of  circumstances  was  irresistible. 
During  the  continuance  of  the  "Latin  Empire"  at  Byzantium,  Venice 
and  her  sister-state  were  practically  the  only  merchants  of  Europe. 

The  characteristics  of  this  early  period  are  perfectly  well  defined, 
and  repeat  themselves  with  almost  faithful  and  exact  similarity  of 
recurrence  in  the  several  states  comprising  the  Europe  of  that  date. 
In  brief,  such  characteristics  were  those  of  (i)  a  period  of  commercial 
expanse,  necessitating  an  increasing  currency  and  advancing  prices; 
(2)  a  period  of  stationary  production  of  the  precious  metals,  necessi- 
tating a  struggle  among  the  various  states  for  the  possession  of  those 
metals;  (3)  a  period  of  endless  change  in  the  ratio  between  gold  and 
silver,  necessitating  the  continual  revision  of  the  rate  of  exchange. 
Broadly  speaking,  those  characteristics  fall  into  two  classes,  accord- 
ing as  they  relate  to  (i)  the  natural  movement  of  prices,  i.e.,  having 
regard  merely  to  the  supply  of  the  precious  metals;  (2)  to  the  unnat- 
ural struggle  for  the  metals  themselves — for  the  material  for  currency 
— due  to  international  rivalry  and  bad  or  crafty  legislation. 

With  regard  to  the  former  of  these,  the  period  was  distinctly  one 
of  insufficient  and  relatively  diminishing  production  of  the  metals. 
During  these  two  centuries,  1300-1500,  the  main  sources  of  the  deri- 
vation of  gold  were  the  Eastern  trade  and  the  finds  on  the  eastern 
shores  and  northern  interior  of  Africa.  The  chief  supply  of  silver 
came  from  the  mines  in  Germany.  These  latter  in  Hungary,  Transyl- 
vania, Saxony,  and  Bohemia  were  of  such  importance  and  activity, 


74 


PRINCIPLES  OF  MONEY  AND  BANKING 


in  the  fifteenth  century  and  toward  the  time  of  the  discovery  of 
America,  as  partially  to  keep  pace  with  the  general  trade  expanse  of  the 
time,  thereby  helping  to  arrest  a  fall  of  prices  that  would  have  been 
absolutely  disastrous  to  the  civilization  of  Europe. 

44.    PRODUCTION  OF  GOLD  AND  SILVER  IN  THE  WORLD  SINCE 
THE  DISCOVERY  OF  AMERICA' 


Gold 

Silver 

Annual  Average  for  Period 

Annual  Average  for  Period 

Period 

Coining  Value  in 

Coining  Value  in 

Fine  Ounces 

Standard  Silver 
Dollars 

Fine  Ounces 

Standard  Silver 
Dollars 

1493-1520 

186,470 

$     3,855,000 

1,511,050 

$     1,954,000 

1521-1544 

230,194 

4,759,000 

2,899,930 

3,740,000 

1545-1560 

273,596 

3,656,000 

10,017,940 

12,952,000 

1561-1580 

219,906 

4,546,000 

9,628,925 

12,450,000 

1581-1600 

237,267 

4,905,000 

13,467,635 

17,413,000 

1601-1620 

273,918 

5,662,000 

13.596,235 

17,579,000 

1621-1640 

266,845 

5,516,000 

12,654,240 

16,361,000 

1641-1660 

281,995 

5,828,000 

11,776,545 

15,226,000 

1661-1680 

297,709 

6,154,000 

10,834,550 

14,008,000 

1681-1700 

346,095 

7,154,000 

10,992,085 

14,212,000 

1701-1720 

412,163 

8,520,000 

11,432,540 

14,781,000 

1721-1740 

613,422 

12,581,000 

13,863,080 

17,924,000 

1741-1760 

791,211 

16,356,000 

17,140,612 

22,162,000 

1761-1780 

665,666 

13,761,000 

20,985,591 

27,133,000 

1 781-1800 

571,948 

11,823,000 

28,261,779 

36,540,000 

1801-1810 

571,563 

11,815,000 

28,746,922 

37,168,000 

1811-1820 

367,957 

7,606,000 

17,385,755 

22,479,000 

1821-1830 

457,044 

9,448,000 

14,807,004 

19,144,000 

1831-1840 

652,291 

13,484,000 

19,175,867 

24,793,000 

1841-1850 

1,760,502 

36,393,000 

25,090,842 

32,440,000 

1851-1855 

6,410,324 

132,513,000 

28,488,597 

36,824,000 

1856-1860 

6,485,262 

134,083,000 

29,095,428 

37,618,000 

1861-1865 

5,949,582 

122,989,000 

35,401,972 

45,772,000 

1866-1870 

6,270,086 

129,614,000 

43,051,583 

55,663,000 

1871-1875 

5,591,014 

115,577,000 

63,317,014 

81,864,000 

1876-1880 

5,543, no 

114,586,000 

78,775,602 

101,851,000 

1881-1885 

4,794,755 

99,116,000 

92,003,944 

118,955,000 

1886-1890 

5,461,282 

112,895,000 

108,911,431 

140,815,000 

1891-1895 

7,882,565 

162,947,000 

157,581,331 

203,742,000 

1896-1900 

12,446,939 

257,301,100 

165,693,304 

214,229,700 

1901-1905 

15,606,730 

322,619,800 

167,995,408 

217,206,200 

1006 

19,471,080 
19,977,260 
21,422,244 
21,965,111 
22,022,180 

402,503,000 

165,054,497 

213,403,800 

IQ07 

412,966,600 

184,206,984 

238,166,600 

IQ08 

442,836,900 
454,059,100 

203,131,404 

262,634,500 

IQOQ 

212,149,023 

274,293,700 

lOIO 

455,239,100 

221,715,673 

286,662,700 

TOII 

22,348,313 
22,549,335 

461,939,700 

226,192,923 

292,451,500 

IOI2 

466,136,100 

202,178,314 

261,402,300 

Total 

714,747,822 

$14,775,110,000 

11,083,136,909 

$14,329,712,400 

From  Annual  Report  of  Director  of  the  Mint,  1914,  p.  268. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  75 

D.     Principles  of  Coinage 

45.     INVENTION  OF  COINAGE' 
By  henry  V.  POOR 

Coinage  is  of  comparatively  recent  origin.  No  traces  of  it  have 
been  found  among  the  remains  of  Assyrian  or  Egyptian  art;  and 
Egyptian  civilization,  running  through  periods  far  greater  than  those 
which  measure  the  life  of  subsequent  nations,  had  begun  to  decline 
before  coinage  was  used.  Among  all  the  ancient  nations,  including 
the  Hebrews  and  Phoenicians,  as  well  as  the  Assyrians  and  Eg>T>tians, 
the  precious  metals  passed  by  weight.  WTien  Abraham  weighed  out 
at  Ephron  the  silver  which  he  had  named  in  the  audience  of  the  sons 
of  Heth — "four  hundred  shekels  of  silver,  current  money  with  the 
merchant" — he  undoubtedly  used  scales  and  denominations  of  weight 
common  to  the  whole  East.  The  language  indicates  as  thorough  a 
famiUarity  with  the  use  of  money  as  does  that  used  in  financial  news- 
paper articles  of  the  present  day.  So  Joseph  gave  to  Benjamin 
"three  hundred  pieces  of  silver."  These  pieces  were  undoubtedly 
of  very  nearly  equal  weight — consequently  of  equal  value.  The  word 
piece  had  a  significance  precisely  similar  to  that  which  we  attach  to 
the  word  dollar. 

The  invention  of  coinage  has  been  ascribed  to  Pheidon,  who 
reigned  about  750  B.C.,  in  the  island  of  Aegina,  a  dependency  of  Argos, 
and  at  that  time  one  of  the  greatest  commercial  emporiums  of  Greece. 
Previous  to  its  invention,  the  form  in  which  the  precious  metals  were 
used  was  that  of  pins,  or  wires,  silver  being  the  metal  chiefly  employed. 
Of  these,  a  certain  number  made  a  conventional  handful,  or  drachma. 
This  form  was  gradually  exchanged  for  that  of  solid  pieces,  or  wedges, 
which  may  be  considered  as  a  step  toward  coinage. 

Jevons  says:  "The  mode  in  which  the  invention  happened  is 
sufficiently  evident.  Seals  were  familiarly  employed  in  very  early 
times,  as  we  learn  from  the  Eg\'])tian  paintings  or  the  stamped  bricks 
of  Nineveh.  Being  employed  to  signify  possession,  or  to  ratify  con- 
tracts, they  came  to  indicate  authority.  When  a  ruler  first  under- 
took to  certify  the  weights  of  pieces  of  metal,  he  naturally  employed 
his  seal  to  make  Uie  fact  known,  just  as,  at  Goldsmith's  Hall,  a  small 
punch  was  used  to  certify  the  fineness  of  plate.  In  the  earliest  forms 
of  coinage  there  were  no  attempts  at  so  fashioning  the  metal  that  its 

'Adapted  from  Money,  Its  Lau-s  and  History,  p.  11.  (H.  \'.  and  H.  \V. 
Poor,  1877.) 


76  PRINCIPLES  OF  MONEY  AND  BANKING 

weight  could  not  be  altered  without  destroying  the  stamp  or  design. 
The  earliest  coins  struck,  both  in  Lydia  and  in  the  Peloponnesus, 
were  stamped  on  one  side  only."* 

46.    FORM,  DESIGN,  AND  SIZE  OF  COINS' 
By  W.  STANLEY  JEVONS 

From  time  to  time  coins  have  been  manufactured  in  very  many 
forms,  although  circular  coins  vastly  predominate  in  number.  Among 
the  innumerable  issues  of  the  German  states  may  be  found  octagonal 
and  hexagonal  coins.  A  singular  square  coin,  with  a  circular  impress 
in  the  centre,  was  issued  from  Salzburg  by  Rudbert  in  15 13.  Siege- 
pieces  have  been  issued  in  England  and  elsewhere  in  the  form  of 
squares,  lozenges,  etc.  Some  of  the  most  extraordinary  specimens  of 
money  ever  used  are  the  large  plates  of  pure  copper  which  circulated 
in  Sweden  in  the  eighteenth  century.  These  were  about  three-eighths 
of  an  inch  in  thickness,  and  varied  in  size,  the  half-daler  being  3^ 
inches  square,  and  the  two-daler  piece  as  much  as  7^  inches  square 
and  3I  pounds  in  weight.  As  the  whole  surface  could  not  be  covered 
with  a  design,  a  circular  impress  was  struck  near  to  each  corner,  and 
one  in  the  centre,  so  as  to  render  alteration  as  difficult  as  possible. 

Among  Oriental  nations  the  shapes  of  coins  are  still  more  curious. 
In  Japan,  the  principal  part  of  the  circulation  consists  of  silver  itzibiis, 
which  are  oblong,  flat  pieces  of  silver,  covered  on  both  sides  with 
designs  and  legends,  the  characters  being  partly  in  relief  and  partly 
incised.  The  smaller  silver  coins  have  a  similar  form.  Among  the 
minor  Japanese  coins  are  found  large,  oval,  moulded  pieces  of  copper 
or  mixed  metal,  each  with  a  square  hole  in  the  centre.  The  Chinese 
cash  are  well  known  to  be  round  discs  of  a  kind  of  brass,  with  a  square 
hole  in  the  centre  to  allow  of  their  being  strung  together.  The  present 
circulation  of  China  is  composed  of  the  so-called  Sycee  silver,  which 
consists  of  small  shoe-shaped  ingots,  assayed  and  stamped,  according 
to  some  accounts,  by  the  government.  The  coins  of  Formosa  are 
similar,  except  that  they  are  much  larger  and  thicker.  All  the  copper 
and  base  metal  coins  of  China,  Japan,  and  Formosa  are  distinguished 
by  a  broad,  flat  rim,  and  they  have  characters  in  relief  upon  a  sunk 

'  This  paragraph  is  taken  from  Money  and  the  Mechanism  of  Exchange,  p.  55, 
1875.     (D.  Appleton  &  Co.) 

"Adapted  from  Motiey  and  the  Mechanism  of  Exchange  (1875),  pp.  55-62. 
(D.  Appleton  &  Co.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  77 

ground,  somewhat  in  the  manner  of  Boulton  and  Watt's  copper  pence. 
They  are  manufactured  by  moulding  the  metal,  and  then  filing  the 
protuberant  parts  smooth..  Such  coins  stand  wear  and  preserve 
their  design  better  than  European  coins,  but  they  are  easily  counter- 
feited. The  most  singular  of  all  coins  are  the  scimiter-shaped  pieces 
formerly  circulated  in  Persia. 

It  is  a  matter  of  considerable  importance  to  devise  the  best 
possible  form  for  coins,  and  the  best  mode  of  striking  them.  The 
use  of  money  creates,  as  it  were,  an  artificial  crime  of  false  coining, 
and  so  great  is  the  temptation  to  engage  in  this  illicit  art  that  no 
penalty  is  sufficient  to  repress  it,  as  the  experience  of  two  thousand 
years  sufl5ciently  proves.  Thousands  of  persons  have  suffered  death, 
and  all  the  penalties  of  treason  have  been  enforced  without  effect. 
Ruding  is  then  unquestionably  right  in  saying  that  our  efforts  should 
be  directed,  not  so  much  to  the  punishment  of  the  crime,  as  to  its  pre- 
vention by  improvements  in  the  art  of  coining.  We  must  strike  our 
coins  so  perfectly  that  successful  imitation  or  alteration  shall  be  out 
of  the  question. 

There  are  four  principal  objects  at  which  we  should  aim  in  deciding 
upon  the  exact  design  for  a  coin: 

1.  To  prevent  counterfeiting. 

2.  To  prevent  the  fraudulent  removal  of  metal  from  the  coin. 

3.  To  reduce  the  loss  by  legitimate  wear  and  tear. 

4.  To  make  the  coin  an  artistic  and  historical  monument  of  the 
state  issuing  it  and  of  the  people  using  it. 

For  the  prevention  of  counterfeiting,  our  principal  resource  is  to 
render  the  mechanical  execution  of  the  piece  as  perfect  as  possible, 
and  to  strike  it  in  a  way  which  can  only  be  accomplished  with  the  aid 
of  elaborate  machinery.  When  all  coins  were  made  by  casting,  the 
false  coiner  could  work  almost  as  skilfully  as  the  moneyer.  Hence, 
in  the  Roman  Empire,  it  was  difficult  to  distinguish  between  true  and 
false  coin.  Hammered  money  was  a  great  improvement  on  moulded 
money  and  milled  money  on  hammered  money.  The  introduction 
of  the  steam  coining-press  by  Boulton  and  Watt  was  the  next  great 
improvement,  and  the  knee-joint  press  of  Ulhorn  and  Thonnelier, 
now  used  in  nearly  all  mints,  except  that  on  Tower  Hill,  forms  the 
last  advance  in  the  mechanism  for  striking  coin. 

The  utmost  attention  ought  to  be  paid  to  the  perfect  execution 
of  the  milling,  legend,  or  other  design  impressed  upon  the  edge  of 
modern  coins.     This  serves  at  once  to  prevent  clipping  or  tampering 


7S  PRINCIPLES  OF  MONEY  AND  BANKING 

with  the  coin,  and  to  baffle  the  skill  of  the  counterfeiter.  The  coins 
of  ancient  nations  were  issued  with  rough,  unstamped  edges,  and  the 
first  coin  marked  with  a  legend  on  the  edge  was  a  silver  coin  of 
Charles  IX  of  France,  issued  in  the  year  1573. 

All  the  larger  coins  now  issued  from  the  English,  and  indeed  from 
most  other  mints,  bear  a  milled  or  serrated  edge,  produced  by  ridges 
on  the  internal  surface  of  the  collar  which  holds  the  coin  when  being 
struck  between  the  two  dies.  These  collars  are  difficult  to  make, 
and  useless  when  made  except  in  the  coining  press,  and  the  counter- 
feiter cannot  imitate  the  milling  by  handwork,  it  being  almost  impos- 
sible to  use  a  file  with  sufficient  regularity. 

The  French  five-franc  pieces  bear  a  legend  on  the  edge  in  raised 
letters,  the  words  being  "Dieu  protege  la  France."  Such  raised 
letters  are  quite  beyond  the  art  of  the  counterfeiter. 

Some  states  have  utilized  their  coins  as  monuments  of  important 
events,  such  as  conquests,  jubUees,  the  accession  of  monarchs,  etc. 
The  German  states,  especially  Prussia,  have  struck  a  long  series  of 
beautiful  coins  down  to  the  Kronung's  Thaler  of  1861,  and  the  Sieges 
Thaler  of  1871.  Some  of  these  coins  are  at  once  treasured  up  in 
cabinets  in  the  manner  of  medals.  If  it  is  possible  to  conceive  litera- 
ture destroyed,  and  modern  cities  and  their  monuments  in  ruins  and 
decay,  such  medallic  coins  would  become  the  most  durable  memorials, 
and  the  history  of  the  kings  of  Prussia  would  be  traced  out  by  future 
numismatists  as  that  of  the  great  dynasties  of  Bactria  has  lately  been 
recovered. 

47.    COINAGE,  A  GOVERNMENT  FUNCTION' 
By  W.  STANLEY  JEVONS 

Every  civilized  community  requires  a  supply  of  well-executed 
coins,  so  there  arises  the  question,  How  shall  this  money  be  provided  ? 
The  coins  of  each  denomination  must  contain  exactly  equal  weights 
of  fine  metal,  and  must  bear  the  impress  proving  that  they  do  so. 
Can  we  trust  to  the  ordinary  competition  of  manufacturers  and 
traders  to  keep  up  a  sufficient  supply  of  such  coins,  just  as  they  supply 
buttons  or  pins  or  needles?  Or  must  we  establish  a  permanent 
department,  under  strict  legislative  control,  to  secure  good  coinage  ? 

As  almost  every  opinion  finds  some  advocates,  there  are  not 
wanting  a  few  who  believe  that  coinage  should  be  left  to  the  free 

'  Adapted  from  Money  and  the  Mechanism  of  Exchange,  pp.  62-64.  (D. 
Appleton  &  Co.,  1875.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  79 

action  of  competition.  Mr.  Herbert  Spencer  advanced  the  doctrine 
that,  as  we  trust  the  grocer  to  furnish  us  with  pounds  of  tea,  and  the 
baker  to  send  us  loaves  of  bread,  so  we  might  trust  Heaton  and  Sons, 
or  some  of  the  other  enterprising  firms  of  Birmingham,  to  supply  us 
with  sovereigns  and  shillings  at  their  own  risk  and  profit.  He  held 
that  just  as  people  go  by  preference  to  the  grocer  who  sells  good  tea, 
and  to  the  baker  whose  loaves  are  sound  and  of  full  weight,  so  the 
honest  and  successful  coiner  would  gain  possession  of  the  market,  and 
his  money  would  drive  out  inferior  productions. 

Mr.  Spencer  has,  however,  overlooked  the  important  law  of 
Gresham,  that  better  money  cannot  drive  out  worse.  In  matters  of 
currency,  self-interest  acts  in  the  opposite  direction  to  what  it  does  in 
other  affairs,  and  if  coining  were  left  free,  those  who  sold  light  coins 
at  reduced  prices  would  drive  the  best  trade. 

This  conclusion  is  amply  confirmed  by  experience;  for  at  many 
times  and  places  coins  have  been  issued  by  private  manufacturers,  and 
always  with  the  result  of  debasing  the  currency.  For  a  long  time  the 
copper  currency  of  England  consisted  mainly  of  tradesmen's  tokens, 
which  were  issued  very  light  in  weight  and  excessive  in  number.  In 
Mr.  Smiles'  Lives  of  Boulton  and  Watt  the  lower  class  of  manufacturers 
purchased  copper  coins  to  the  nominal  value  of  thirty-sbc  shillings 
for  twenty  shillings  in  silver  and  distributed  it  to  their  work-people 
in  wages,  so  as  to  make  a  considerable  profit.  The  multitude  of  these 
depreciated  pieces  in  circulation  was  so  great  that  the  magistrates  and 
inhabitants  of  Stockport  held  a  public  meeting,  and  resolved  to  take 
no  halfpence  in  future  but  those  of  the  Anglesey  Company,  which 
were  of  full  weight.  This  shows,  if  proof  were  needed,  that  the  separate 
action  of  self-interest  was  inoperative  in  keeping  bad  coin  out  of 
circulation,  and  it  is  not  to  be  supposed  that  the  pubHc  meeting 
could  have  had  any  sufficient  effect. 

The  ex-perience  of  the  United  States  has  also  shown  that  the  coin- 
ing of  money  cannot  safely  be  left  to  private  enterprises.  Private 
coinage  W8,s  not  forbidden  in  the  United  States  until  1864,  and  between 
1850  and  this  date  there  were  numerous  private  gold  manufactories 
located  in  the  gold-producing  regions.  As  many  as  sixty  specimens 
of  such  coins  have  been  preserved  by  the  mint  at  Philadelphia.  These 
coins  were  guaranteed  to  be  of  the  same  weight  and  fineness  as  govern- 
ment coins,  though  in  fact  the  five-dollar  pieces  ranged  in  value  from 
$4.36  to  $5.00.  They  were  of  course  not  counterfeits,  and  hence 
they  should  have  passed  for  their  actual  worth.     They  would  have 


8o  PRINCIPLES  OF  MONEY  AND  BANKING 

done  so  if  everyone  were  equipped  with  accurate  scales  and  the  means 
of  testing  the  fineness,  but  this  was  of  course  out  of  the  question. 
Traders  in  general  could  not  distinguish  between  them,  and  were 
hence  likely  to  be  cheated,  while  at  the  same  time  sharpers  could  reap 
the  advantage  in  handsome  profits  with  little  danger  of  detection. 
Guaranteed  uniformity  is  an  absolute  essential  with  money. 

48.    THE  COINAGE  PROCESS  AT  THE  UNITED  STATES  MINTS' 
By  HORACE  WHITE 

The  successive  steps  in  the  making  of  coins  at  the  United  States 
mints  are  (i)  assaying,  (2)  refining,  (3)  alloying,  (4)  coining.  The 
bullion  is  first  melted  in  a  crucible.  While  in  the  molten  state  it  is 
stirred  until  thoroughly  mixed.  It  is  then  allowed  to  cool  in  the  form 
of  a  brick.  Small  pieces  are  clipped  from  two  corners  of  the  brick 
most  distant  from  each  other  and  given  to  two  different  assayers  to 
test  the  fineness  of  the  metal.  If  their  tests  do  not  agree  within 
a  certain  fraction,  the  brick  is  returned  to  the  melting-pot  and  the 
process  repeated.  When  the  test  is  satisfactory  and  the  amount  of 
foreign  substance  is  known,  the  whole  of  the  impurity  is  removed  by 
chemical  means.  Then  the  requisite  amount  of  alloy  is  added  by 
remelting  and  mLxing,  to  harden  the  mass.  Thus,  to  nine  pounds  of 
pure  gold  one  pound  of  copper  is.  added,  so  that  the  coins  shall  be 
nine-tenths  fine. 

The  bullion  is  rolled  into  strips  or  ribbons  a  little  wider  than  the 
coin  to  be  struck.  It  is  then  "drawn"  in  a  machine  which  reduces 
it  to  the  thickness  of  the  coin.  The  strips  are  then  passed  through 
another  machine,  which  cuts  out  of  them  circular  pieces  of  the  proper 
size,  called  "blanks."  Each  blank  is  examined  by  an  expert  both  by 
weighing  and  by  sounding.  If  one  is  found  too  light,  or  if  it  does  not 
"ring  true,"  it  is  returned  to  the  melting-pot.  If  it  is  too  heavy,  the 
excess  of  metal  is  removed  by  filing. 

The  blanks  are  sent  to  a  machine  by  which  a  slight  rirn  is  raised 
around  the  edge  of  the  piece  on  both  sides,  so  that  its  weight  shall 
rest  on  the  rim  and  not  on  the  whole  surface  of  the  coin,  in  order  to 
minimize  the  abrasion.  This  process  is  called  "milling."  The 
blanks  are  then  put  in  a  cylindrical  case  and  sent  to  the  coining 
machine.  At  each  revolution  of  the  machine  one  blank  drops  from 
the  bottom  of  the  cylinder,  is  seized  and  conveyed  to  a  sunken  steel 

'  Adapted  from  Money  atid  Banking,  pp.  20-22.     (Ginn  &  Co.,  1895.) 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  8 1 

bed  which  contains  a  die  that  prints  one  surface  of  the  coin.  This 
bed  has  a  serrated  edge  or  "collar."  Directly  above  this  sunken  die 
is  a  steel  stamp  containing  a  die  which  prints  the  other  surface  of  the 
coin.  This  stamp  descends  on  the  blank  underneath  with  sufficient 
force  to  impress  upon  it  the  letters  and  figures  of  both  surfaces  of  the 
coin.  This  pressure  also  squeezes  the  coin  against  the  serrated 
collar,  producing  an  indentation  on  the  edge  of  the  coin,  the  object 
of  which,  is  to  prevent  any  clandestine  removal  of  metal.  If  a  piece 
were  clipped  from  the  edge,  or  any  portion  were  remo\'ed  by  filing, 
the  fraud  would  be  detected  by  the  absence  or  irregularity  of  the 
indentations. 


49.     COINAGE   RULES  AND   REGULATIONS   OF  THE  UNITED 

STATES' 

a)    RECEIPT    OF   BULLION' 

All  bullion  deposited  or  purchased  at  any  of  the  mints  or  assay  offices 
of  the  United  States  shall  be  weighed  in  the  presence  of  the  depositor  or 
his  agent,  and  the  weight  shall  be  verified  by  the  registrar  of  deposits.  If 
the  bullion  deposited  is  found  to  be  of  less  value  than  $100,  it  may  be  legally 
refused.  If,  upon  report  of  the  assayer,  it  is  found  to  be  unsuitable  for  the 
operations  of  the  mint,  it  shall  be  refused. 

b)   ASSAYING 

As  soon  as  the  weight  of  a  deposit  has  been  ascertained  and  recorded 
the  assayer  takes  at  least  two  samples  in  sufficient  portion  for  assay  and 
proceeds  to  test  the  quality  of  the  metal.  The  assayer  shall  insert  in  the 
report  the  fineness  of  the  gold  or  silver  contained  in  the  deposit.  If  the 
base  is  ascertained  to  be  copper  suitable  for  standard  metal,  he  shall  so  state 
in  his  report.  He  shall  also  insert  in  his  report  the  charges  to  which  the 
deposit  is  subject. 

c)   MINT  CHARGES 

Section  3524,  Revised  Statutes  of  the  United  States,  provides  that  the 
charges  for  the  various  operations  on  bullion  deposited  and  for  the  prepa- 
ration of  bars  shall  be  fixed  from  time  to  time  by  the  Director  of  the  Mint, 
with  the  concurrence  of  the  Secretary  of  the  Treasury,  so  as  to  equal,  but 
not  exceed,  in  their  judgment,  the  actual  average  cost  to  each  mint  and 
assay  office  of  the  material,  labor,  wastage,  and  use  of  machinery  employed. 

'  From  Genera!  luslrucUons  oitd  Regulations  in  Relation  to  the  Transaction 
of  Business  at  the  Mints  and  Assay  Offices  of  the  United  States. 


82  PRINCIPLES  OF  MONEY  AND  BANKING 

The  following  are  ihe  principal  mint  charges: 

1.  Melting  charge. — On  deposit  of  bullion  a  charge  of  $i  shall  be  imposed 
for  each  i,ooo  ounces  of  bullion  or  fraction  thereof  as  shown  by  weight  after 
melting,  except  in  the  case  of  uncurrent  United  States  coin  and  mint-fine 
bars,  for  which  no  charge  is  made. 

2.  Parting  and  refining  bullion. — The  charges  for  parting  and  refining 
bullion  vary  with  the  amount  of  impurities  and  base  metal.  Bullion  con- 
taining 800  thousandths  or  more  of  base  metal  is  not  accepted.  At  the 
other  extreme  no  charge  is  made  for  bullion  containing  992  thousandths 
of  gold  and  upward.  The  charges  on  other  buUion  vary  from  one-half 
cent  per  ounce  to  four  cents  per  ounce,  depending  upon  the  amount  of  base 
metals  and  copper  alloy  contained.  For  instance,  where  bullion  contains 
from  950  to  9914  thousandths,  inclusive,  of  gold  and  not  more  than  30 
thousandths  base,  the  charge  is  2  cents  per  ounce.  The  depositor  is  given 
credit  for  the  copper  contained  in  the  bullion.  There  is  no  charge  for 
parting  and  refining  foreign  coins  unless  they  are  below  standard 
fineness. 

3.  Toughening  charge. — Bullion  containing  one  or  more  of  the  following 
substances,  viz.,  iron,  lead,  antimony,  bismuth,  tin,  arsenic,  zinc,  or  sulphur, 
in  amounts  sufficient  to  make  it  impossible  to  obtain  a  satisfactory  assay, 
shall,  at  the  discretion  of  the  sup>erintendent,  be  subject  to  an  additional 
charge  equal  to  the  cost  to  the  Government  for  remelting  and  treatment 
by  the  deposit  melter. 

4.  Copper  alloy. — Two  cents  per  ounce  for  copper  required,  to  be 
determined  by  taking  one-tenth  of  the  standard  weight  of  gold,  except 
where  the  base  in  the  deposit  is  all  good  copper  and  the  fineness  above 
standard,  when  the  method  of  determining  the  number  of  ounces  of  copper 
required  shall  be  by  taking  the  difference  between  the  standard  weight  and 
the  gross  weight  of  the  deposit. 

5.  Assays  of  bullion  and  plated  ware. — Samples  of  gold  and  silver 
bullion  will  be  assayed  at  the  mints  and  assay  offices  at  a  charge  of  $2  per 
sample.  In  case  of  plate,  or  what  is  known  as  rolled  or  filled  plate,  the 
charge  shall  be  $4  for  each  assay;  or  the  assay  may  be  refused,  at  the 
option  of  the  assayer. 

d)   ADVANCES  OR  PARTIAL  PAYMENTS  ON  DEPOSITS 

In  case  of  deposits,  the  fineness  of  which  may  be  readily  determined 
approximately  by  inspection,  payment  may,  at  the  discretion  of  the  super- 
intendents of  the  coinage  mints  and  the  assay  office  at  New  York,  be  made 
within  10  per  cent  of  their  value,  or  within  2  per  cent  when  already  closely 
determined  by  assay  and  awaiting  remelting  or  reassay  for  exact  determi- 
nation: Provided,  No  partial  payment  shall  be  made  on  a  deposit  contain- 
ing less  than  $5,000  in  gold,  or  5,000  ounces  of  silver. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  83 

e)    DEPOSITS    OF   UNITED    STATES   COIN 

United  States  gold  coin  of  legal  weight  shall  not  be  received  from 
depositors  except  in  sums  of  not  less  than  $5,000  in  exchange  for  gold  bars. 

Mutilated  or  otherwise  uncurrent  United  States  gold  coins,  of  any 
denomination,  will  be  received  at  any  of  the  mints  or  assay  offices  of  the 
United  States,  and  the  value  of  the  fine  gold  contained  will  be  paid  to  the 
depositor  at  the  rate  of  $20. 67  per  ounce  line,  or  $18. 60  per  ounce  standard 
(0.900  fine). 

/)    MODE   OF   PAYMENTS 

Payments  for  deposits  of  gold  bullion  at  the  coinage  mints  and  at  the 
assay  office  in  New  York  will  be  made  in  fine  bars,  coin,  or  by  check,  as 
may  be  desired  by  the  depositor.  At  the  minor  assay  offices  payments 
are  made  by  check  on  an  Assistant  Treasurer  of  the  United  States,  or 
Government  depository  bank  nearest  at  hand. 

g)    MANUFACTURE   OF   BARS 

Unparted,  fine,  and  standard  bars  may  be  manufactured  at  the  coinage 
mints  and  the  assay  office  at  New  York,  and  unparted  bars  at  all  of  the 
institutions.  Fine  bars  may  be  approved  when  they  have  a  fineness  of 
o.  992  and  upward,  and  no  bar  of  gold  or  silver  of  less  weight  than  5  ounces 
shall  be  issued  at  any  of  the  mints  or  assay  offices  of  the  United  States. 

h)      THE    "tolerance   OF   THE   MINT"   AND    "TRIAL   OF   THE   PYX" 

The  weight  of  a  new  gold  eagle,  or  double  eagle,  must  not  vary  more 
than  half  a  grain  from  the  standard  weight  fixed  in  the  law.  That  of  the 
smaller  gold  coins  must  not  vary  more  than  a  quarter  of  a  grain.  This 
allowable  variation  is  called  the  "tolerance  of  the  mint." 

The  testing  of  this  weight  is  determined  by  a  "Trial  of  the  Pyx." 
Five  pieces  out  of  every  thousand  coined  are  taken  out  by  the  superin- 
tendent upon  receipt  from  the  coiner  and  tried  separately  by  him.  If 
successful,  these  pieces  are  sealed  and  deposited  in  a  pyx  which  is  kept 
under  the  joint  care  of  the  superintendent  and  the  assayer  and  secured  so 
that  neither  can  have  access  to  its  contents  without  the  presence  of  the 
other. 

If  the  original  trial  by  the  superintendent  proves  unsatisfactory,  all 
the  coins  shall  be  weighed  separately,  and  such  as  are  not  of  legal  weight 
shall  be  defaced  and  delivered  to  the  melter  and  refiner.  Four  times  a  year 
the  samples  from  the  minor  mints  are  sent  to  the  mint  at  Philadelphia. 
The  entire  quantity  of  samples  is  then  subjected  to  an  annual  "Trial  of 
the  Pyx"  by  a  special  Assay  Commission,  composed  of  the  Judges  of  the 
District  Court  of  the  eastern  district  of  Pennsylvania,  the  Comptroller  of 
the  Currency,  the  Assayer  of  the  assay  office  at  New  York,  and  such  other 
persons  as  the  President  may,  from  time  to  time,  designate.     If  an  error 


84  PRINCIPLES  OF  MONEY  AND  BANKING 

is  found,  the  officers  implicated  in  the  error  are  thenceforward  disqualified 
from  holding  their  respective  oflSces. 

The  penalty  imposed  upon  an  officer  of  the  mint  for  debasing,  embez- 
zling, or  in  any  way  altering  coins,  or  for  tampering  with  the  scales  or 
weights  used  at  the  mints,  shall  be  a  fine  of  not  more  than  ten  thousand 
doUars  and  imprisonment  for  not  more  than  ten  years. 

i)    THE    STANDARD   TROY   POUND 

For  the  purpose  of  securing  a  due  conformity  in  weight  of  the  coins 
of  the  United  States  to  the  provisions  of  this  Title,  the  brass  troy-pound 
weight  procured  by  the  minister  of  the  United  States  at  London,  in  the 
year  eighteen  hundred  and  twenty-seven,  for  the  use  of  the  mint,  and  now 
in  the  custody  of  the  mint  in  Philadelphia,  shall  be  the  standard  troy  pound 
of  the  mint  of  the  United  States,  conformably  to  which  the  coinage  thereof 
shall  be  regulated.  Duplicates  of  this  standard  troy  pound  shall  be  pro- 
cured for  the  other  mints  and  assay  offices.  Inspection  and  testing  of  these 
shall  be  made  annually  by  the  Assay  Commission  along  with  the  testing 
of  coins. 

j)   ABRASION 

Where  gold  is  used  extensively  as  a  circulating  medium  there  is  a  con- 
siderable loss  from  wear  and  tear,  or  abrasion.  The  law  in  the  United 
States  permits  an  abrasion  equal  to  one-half  of  i  per  cent  in  20  years,  and 
proportionally  for  each  year.  For  instance,  an  eagle,  at  the  end  of  20  years, 
would  be  current  if  it  weighed  only  256. 71  grains  instead  of  258  (or  258. 50 
when  allowance  is  made  for  the  tolerance  of  the  mint).  The  annual  abra- 
sion permissible  is  .0645.  Experiments  have  shown  that  this  limit  of 
abrasion  is  high  enough  to  avoid  frequent  recoinage  in  the  United  States. 

In  case  a  gold  coin  is  uncurrent  on  account  of  abrasion  in  the  United 
States  the  loss  falls  on  the  last  holder.  This  appears  like  an  injustice,  since 
the  loss  is  due  to  social  wear.  It  has  thus  far  been  held,  however,  that  the 
impossibility  of  determining  whether  the  light  weight  is  due  to  abrasion  or 
sweating  makes  it  necessary  to  charge  the  loss  entirely  to  the  last  holder. 

k)    COUNTERFEITING 

"Whoever  shall  falsely  make,  forge,  or  counterfeit,  or  cause  or  procure 
to  be  falsely  made,  forged,  or  counterfeited,  or  shall  willingly  aid  or  assist 
in  falsely  making,  forging,  or  counterfeiting  any  coin  or  bars  in  resemblance 
or  similitude  of  the  gold  or  silver  coins  or  bars  which  have  been,  or  here- 
after may  be,  coined  or  stamped  at  the  mints  and  assay  offices  of 
the  United  States,  or  in  resemblance  or  similitude  of  any  foreign  gold  or 
silver  coin  which  by  law  is,  or  hereafter  may  be,  current  in  the  United 
States,  or  are  in  actual  use  and  circulation  as  money  within  the  United 
States;   or  whoever  shall  pass,  utter,  publish,  or  sell,  or  attempt  to  pass, 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  85 

utter,  publish,  or  sell,  or  bring  into  the  United  States  or  any  place  subject 
to  the  jurisdiction  thereof,  from  any  foreign  place,  knowing  the  same  to  be 
false,  forged,  or  counterfeit,  with  intent  to  defraud  any  body  politic  or 
corporate,  or  any  person  or  persons  whomsoever,  or  shall  have  in  his  pos- 
session any  such  false,  forged,  or  counterfeited  coin  or  bars,  knowing  the 
same  to  be  false,  forged,  or  counterfeited,  with  intent  to  defraud  any  body 
politic  or  corporate,  or  any  person  or  persons  whomsoever,  shall  be  fined 
not  more  than  five  thousand  dollars  and  imprisoned  not  more  than  ten 
years."  For  counterfeiting  minor  coins  the  penalty  is  a  fine  of  not  more 
than  one  thousand  dollars  and  imprisonment  for  not  more  than  three  years. 
For  debasing,  defacing,  injuring,  etc.,  any  gold  or  silver  coins  with  intent 
to  defraud,  the  penalty  is  not  in  excess  of  a  fine  of  two  thousand  dollars 
and  imprisonment  for  five  years. 

SO.    SEIGNORAGE' 

The  word  seignorage,  also  spelt  seigneurage,  seigneuriage,  and 
seigniorage,  is  of  Norman-French  origin.  Under  the  feudal  system 
the  right  of  coinage  was  an  exclusive  privilege  of  the  king  or  seigneur. 
This  personage  not  unnaturally  took  the  opportunity  of  exacting  a 
fee  when  the  mint  was  employed  in  the  coinage  of  metal  belonging 
to  his  subjects.  The  money  thus  raised  was  retained  by  the  king  for 
his  use,  and  it  was  to  this  pK)rtion  of  the  royal  income  that  the  title 
seignorage  was  applied. 

The  total  amount  paid  by  merchants  for  the  privilege  of  having 
their  bullion  converted  into  coin  was  the  sum  of  two  charges,  one  of 
which  went  to  the  king,  and  the  other  to  the  officers  of  tlie  mint. 
The  first  was  the  seignorage,  the  second  the  brassage.  This  latter 
term  has  never  been  generally  used  in  England,  but  it  has  been  referred 
to  under  the  head  of  mint-charge,  or  charge  for  coinage. 

These  two  charges  were  fixed  at  a  sum  per  pound  calculated  on 
the  gross  weight  of  coin  produced  from  the  bullion  sent  in,  and  their 
amount  was  collected  by  a  deduction  from  the  coin  delivered  to  the 
merchant.  Thus  we  find  that  in  the  reign  of  Edward  III  (1345)  the 
deduction  made  at  the  mint  from  gold  coins  delivered  to  the  public 
was  at  the  rate  of  £1  35.  6d.  per  lb.,  of  which  £1  went  to  the  king  as 
his  seignorage,  and  35.  6d.  to  the  mint  to  defray  the  cost  of  coinage. 
In  the  same  year  the  charge  for  coining  silver  was  fixed  at  is.  ^d.  per 
lb.,  of  which  Cjd.  went  to  the  officers  of  the  mint,  and  dd.  to  the 
exchequer. 

'  From  Palgrave,  Dictionary  of  Political  Economy,  III,  37^-73. 


86  PRINCIPLES  OF  MONEY  AND  BANKING 

The  revenue  directly  raised  by  the  seignorage  charge  was  at 
various  times  supplemented  by  one  or  both  of  the  following  means: 
(a)  the  use  of  the  Tower  pound;  and  (b)  advantage  taken  of  the 
Remedy,  or  Shere,  allowance  to  issue  coins  uniformly  short  of  their 
full  legal  weight. 

The  Tower  pound  was  equal  in  weight  to  ii  oz.  5  dwt.  troy,  so 
that  16  lb.  Tower  =  15  lb.  troy.  Metal  sent  to  the  mint  for  coinage 
was  received  by  troy  weight,  but  given  out  to  the  coiners  by  Tower 
weight.  The  legal  number  of  pieces  per  pound  was  then  coined  from 
this  diminished  weight  of  metal.  The  king  thus  added  to  his  revenue 
a  sum  equal  to  the  vklue  of  one-sixteenth  of  all  the  metal  brought  to 
the  mint  for  coinage,  while  he  derived  the  same  amount  from  the 
seignorage  charge  as  if  the  coin  had  been  weighed  and  delivered  by 
troy  weight,  this  charge  being  based  upon  the  number  of  Tower 
pounds  of  coin  produced.  The  use  of  the  Tower  pound  in  the  mint 
was  abolished  in  1527  by  a  proclamation  of  Henry  VIII. 

SI.    SOCIAL  EFFECTS  OF  A  BAD  COINAGE^ 
By  THOMAS  BABINGTON  MACAULAY 

The  old  crude  hammered  coins  of  Great  Britain  were  of  vajying 
weight,  slightly  irregular  shape,  and  with  unmilled  edges.  As  a  result 
they  were  easily  clipped  and  mutilated.  In  the  time  of  William  III 
the  practice  of  paring  down  money  was  far  too  lucrative  to  be  checked 
even  by  the  penalty  of  high  treason.  The  severity  of  the  punishment 
gave  encouragement  to  the  crime.  For  the  practice  of  clipping  did 
not  excite  in  the  common  mind  a  detestation  resembling  that  with 
which  men  regard  murder,  arson,  robbery,  nay,  even  theft.  The 
injury  done  by  the  whole  body  of  clippers  to  society  as  a  whole  was 
indeed  immense;  but  each  particular  act  of  clipping  was  a  trifle. 
To  pass  a  half-crown  after  paring  a  penny^vorth  of  silver  from  it 
seemed  a  minute  and  almost  imperceptible  fault.  Even  while  the 
nation  was  crying  out  most  loudly  under  the  distress  which  the  state 
of  the  currency  had  produced,  every  individual  who  was  capitally 
punished  for  contributing  to  bring  the  currency  into  that  state  had  the 
general  sympathy  on  his  side.  Constables  were  unwilling  to  arrest 
the  offenders.  Justices  were  unwilling  to  commit.  Witnesses  were 
unwilling  to  tell  the  whole  truth.  Juries  were  unwilling  to  pronounce 
the  word  guilty.    There  was  a  general  conspiracy  to  prevent  the  law 

'  Adapted  from  History  of  England,  1848,  chap.  xxi. 


THE  ORIGIN  AND  DEVELOPMENT  OF  MONEY  87 

from  taking  its  course.  The  convictions,  numerous  as  they  might 
seem,  were  few  indeed  when  compared  with  the  offenses,  and  the 
ofifenders  who  were  convicted  looked  on  themselves  as  murdered  men, 
and  were  firm  in  the  belief  that  their  sin,  if  sin  it  were,  was  as  venial 
as  that  of  a  schoolboy  who  goes  nutting  in  the  wood  of  a  neighbor. 

In  the  autumn  of  1695  it  could  hardly  be  said  that  the  country 
possessed,  for  practical  purposes,  any  measure  of  value.  It  was  a 
mere  chance  whether  what  was  called  a  shilling  was  really  ten  pence, 
sixpence,  or  a  groat.  The  results  of  some  experiments  that  were  tried 
at  that  time  deserve  to  be  mentioned.  The  officers  of  the  exchequer 
weighed  £57,200  of  hammered  money  which  had  recently  been  paid 
in.  The  weight  ought  to  have  been  above  220,000  ounces.  It  proved 
to  be  under  114,000  ounces.  Three  eminent  London  goldsmiths 
were  invited  to  send  £100  each  in  current  silver  to  be  tried  by  the 
balance.  The  £300  ought  to  have  weighed  almost  1,200  ounces. 
The  actual  weight  proved  to  be  624  ounces.  The  same  test  was 
applied  in  various  parts  of  the  kingdom  with  practically  everywhere 
similar  results.  There  were  some  northern  districts,  however,  into 
which  the  clipped  money  had  only  begun  to  find  its  way.  An  honest 
Quaker  who  lived  in  one  of  these  districts  recorded  the  amazement 
with  which,  when  he  travelled  southward,  shopkeepers  and  innkeepers 
stared  at  the  broad,  heav}^  half-crowns  with  which  he  paid  his  way. 
They  asked  whence  he  came  and  where  such  money  was  to  be  found. 
The  guinea  which  he  purchased  for  twenty-two  shillings  at  Lancaster 
bore  a  dilTerent  value  at  every  stage  of  the  journey.  When  he  reached 
London,  it  was  worth  thirty  shillings  and  would  have  indeed  been  worth 
more  had  not  the  government  fixed  that  rate  as  the  highest  at  which 
gold  should  be  received  in  the  payment  of  taxes. 

It  may  well  be  doubted  whether  all  the  misery  which  had  been 
inflicted  on  the  English  nation  in  a  quarter  of  a  century  by  bad  kings, 
bad  ministers,  bad  Parliaments,  and  bad  judges  was  equal  to  the 
misery  caused  by  bad  crowns  and  bad  shillings.  Those  events  which 
furnish  the  best  themes  for  pathetic  or  indignant  eloquence  are  not 
always  those  which  most  afi'ect  the  happiness  of  the  great  body  of  the 
people.  The  misgovernment  of  Charles  and  James,  gross  as  it  had 
been,  had  not  prevented  the  common  l)usiness  of  life  from  going 
steadily  and  prosperously  on.  While  tlie  honor  and  independence  of 
the  state  were  sold  to  a  foreign  power,  while  chartered  rights  were 
invaded,  while  fundamental  laws  were  violated,  hundreds  of  thou- 
sands of  quiet,  honest,  and  industrious  families  labored  and  traded, 


88  PRINCIPLES  OF  MONEY  AND  BANKING 

ate  their  meals,  and  lay  down  to  rest,  in  comfort  and  security.  Whether 
Whigs  or  Tories,  Protestants  or  Jesuits,  were  uppermost,  the  grazier 
drove  his  beasts  to  market;  the  grocer  weighed  out  his  currants; 
the  draper  measured  out  his  broadcloth;  the  hum  of  buyers  and  sellers 
was  as  loud  as  ever  in  the  towns;  the  harvest-home  was  celebrated 
as  joyously  as  ever  in  the  hamlets;  the  cream  overflowed  the  pails  of 
Cheshire;  the  apple  juice  foamed  in  the  presses  of  Herefordshire;  the 
piles  of  crockery  glowed  in  the  furnaces  of  Trent,  and  the  barrows  of 
coal  rolled  fast  along  the  timbered  railways  of  the  Tyne.  But  when 
the  great  instrument  of  exchange  became  thoroughly  deranged,  all 
trade,  all  industry,  were  smitten  as  with  a  palsy.  The  evil  was  felt 
daily  and  hourly  in  almost  every  place  and  by  almost  every  class,  in 
the  dairy  and  on  the  threshing-floor,  by  the  anvil  and  by  the  loom,  on 
the  billows  of  the  ocean  and  in  the  depths  of  the  mine.  Nothing 
could  be  purchased  without  a  dispute.  Over  every  counter  there 
was  wrangling  from  morning  to  night.  The  workman  and  his 
employer  had  a  quarrel  as  regularly  as  the  Saturday  came  around. 
On  a  fair  day  or  a  market  day  the  clamors,  the  reproaches,  the  curses, 
were  incessant;  and  it  was  well  if  no  booth  was  overturned  and  no 
head  broken.  No  merchant  could  contract  to  deliver  goods  without 
making  some  stipulation  about  the  quality  of  the  coin  in  which  he  was 
to  be  paid.  Even  men  of  business  were  often  bewildered  by  the 
confusion  into  which  all  pecuniary  transactions  were  thrown.  The 
simple  and  the  careless  were  pillaged  without  mercy  by  extortioners 
whose  demands  grew  even  more  rapidly  than  the  money  shrank. 
The  price  of  the  necessaries  of  life,  of  shoes,  of  ale,  of  oatmeal,  rose 
fast.  The  laborer  found  that  the  bit  of  metal,  which,when  he  received 
it,  was  called  a  shilling,  would  hardly,  when  he  wanted  to  purchase  a 
pot  of  beer  or  a  loaf  of  rye  bread,  go  as  far  as  a  sixpence.  Where 
artisans  of  more  than  usual  intelligence  were  collected  in  great  num- 
bers, as  in  the  dockyard  at  Chatham,  they  were  able  to  make  their 
complaints  heard  and  to  obtain  some  redress.  But  the  ignorant  and 
helpless  peasant  was  cruelly  ground  between  one  class  which  would 
give  money  only  by  tale  and  another  which  would  take  it  only  by 
weight. 


Ill 

EARLY  EXPEDIENTS  FOR  INCREASING  THE 
CURRENCY 

Introduction 

The  general  confusion  of  mind  that  has  ahvays  existed  with  refer- 
ence to  the  nature  and  functions  of  money,  and  the  widespread  and 
persistent  behef  that  money  is  somehow  synonymous  with,  or  at 
least  a  superior  form  of,  wealth,  and  that  in  consequence  its  accumula- 
tion is  one  of  the  chief  ends  and  aims  of  individuals  and  of  society, 
are  the  main  underlying  causes  of  the  great  monetary  movements  and 
controversies  of  history.  At  bottom,  the  trade  regulations  to  secure 
importations  of  specie,  the  periodical  debasing  of  the  currency,  the 
issues  of  irredeemable  paper  money,  and  the  use  of  two  metals  as  a 
standard  were  all  largely  caused  by  the  belief  in  the  virtue  of  much 
money.  And,  conversely,  the  tremendous  opposition  to  the  abolition 
of  these  various  systems  or  practices,  one  after  another,  has  been 
largely  due  to  the  same  underlying  philosophy.  It  is  necessary 
to  say  mainly  or  largely  due  to  these  views,  because  there  has  been 
at  all  times  a  scientific  side  to  the  controversies  which  was  not  con- 
trolled by  this  popular  confusion,  and  there  have  been,  also,  numerous 
times,  as  will  be  noted  later,  when  the  popular  arguments  resulted 
from  other  influences.  Nevertheless  this  general  confusion  of  money 
with  wealth  must  be  taken  as  the  starting-point  for  an  understanding 
and  appreciation  of  monetary  history.  Approaching  the  study  of 
money  from  an  academic  standpoint  alone  aflfords  but  a  meager 
understanding  or  appreciation  of  its  relation  to  economic  development. 

It  is  the  belief  of  Alexander  Del  Mar,  who  has  doubtless  given 
more  study  to  the  origin  and  development  of  monetary  systems  than 
any  other  student,  that  the  history  of  money  is  the  history  of  civiliza- 
tion. While  this  view  is  not  accepted  by  most  writers,  all  are  never- 
theless agreed  that  money  has  played  a  tremendous  role  in  tlie 
evolution  of  society.  Similarly,  there  has  been  more  discussion  on 
this  subject,  and  more  articles  and  books  have  been  written  on 
monetary  issues,  than  on  any  other  question  in  the  realm  of  politioil 
economy.     At  the  same  time  the  various  controversies  liave  doubtless 


QO  PRINCIPLES  OF  MONEY  AND  BANKING 

developed  more  extreme  enthusiasm  and  greater  bitterness  in  denun- 
ciation than  those  on  any  other  subject.  In  the  exaggerated  words  of 
Mr.  Bryan,  "brother  has  been  arrayed  against  brother,  father  against 
son.  The  warmest  ties  of  love,  acquaintance,  and  association  have 
been  disregarded;  old  leaders  have  been  cast  aside  ....  and  new 
leaders  have  sprung  up  to  give  direction  to  the  cause  of  truth." 

In  the  present  section  we  are  cojicerned  with  the  practice  of 
governmental  debasement  of  the  currency,  once  almost  universal.  As 
the  readings  indicate,  the  practice  was  common  in  Roman  times  (it 
was  doubtless  universally  prevalent  among  the  ancients)  and  through- 
out mediaeval  history  well  down  to  the  modern  period.  The  purposes 
of  such  debasements  are  shown  to  be  various,  but  the  most  common, 
aside  from  the  pressing  requirements  of  the  royal  exchequer,  were  to 
increase  the  volume  of  currency  by  making  more  coins  out  of  the  same 
quantity  of  metal,  and  to  control  the  international  flow  of  currency. 
This  latter  was  obviously  for  the  purpose  of  insuring  at  all  times  within 
the  country  as  large  a  quantity  of  the  precious  metals  as  possible. 
This  end  was,  however,  continually  defeated  by  the  operation  of 
Gresham's  law. 

52.    METHODS  OF  DEBASING  THE  STANDARD* 
By  JOSEPH  HARRIS 

First,  by  altering  the  denomination  of  the  coins  without  making 
any  alteration  at  the  mint,  or  in  the  coins  themselves;  as  suppose 
nine-pence  should  be  called  a  shilling  (twelve-pence). 

Secondly,  by  continuing  the  same  names  and  the  same  weights 
to  the  coins,  but  making  them  baser,  or  with  less  silver  and  more  alloy. 

Thirdly,  by  preserving  the  same  fineness  of  the  metal,  but  making 
the  coins  smaller  or  lighter. 

Lastly,  the  two  last  methods,  or  all  three  methods,  might  be  com- 
pounded together. 

S3.    ROMAN  DEBASEMENT  OF  THE  CURRENCY' 
By  J.  S.  REID 

The  political  importance  of  sound  currency  has  never  been  more 
conspicuously  shown  than  in  the  century  which  followed  the  death 
of  Commodus  (a.d.   180).     Augustus  had  given  a  stability  to  the 

'  Adapted  from  An  Essay  on  Money  and  Coins  (1757).  Reprinted  in  Select 
Currency  Tracts,  450-51. 

'Adapted  from  "The  Reorganization  of  the  Empire,"  in  the  Cambridge 
Mediaeval  History,  I,  39-40.     (The  Macmillan  Co.,  1911.) 


EARLY  EXPEDIENTS  FOR  INCREASING  THE  CURRENCY       91 

Roman  coinage  which  it  had  never  before  possessed.  But  he  imposed 
no  uniform  system  on  the  whole  of  his  dominions.  Gold  (with  one 
exception)  he  allowed  none  to  mint  but  himself.  But  copper  he  left 
in  the  hands  of  the  Senate.  Silver  he  coined  himself,  while  he  per- 
mitted many  local  mints  to  strike  pieces  in  that  metal  as  well  as  in 
copper. 

Although  the  imperial  coins  underwent  a  certain  amount  of  depre- 
ciation between  the  time  of  Augustus  and  that  of  the  Severi,  it  was 
not  such  as  to  throw  out  of  gear  the  taxation  and  commerce  of  the 
Empire.  But  with  C'lracalla  a  rapid  decline  set  in,  and  by  the  time 
of  Aurelian  the  disorganization  had  gone  so  far  that  practically  gold 
and  silver  were  demonetized,  and  copper  became  the  standard  medium 
of  exchange.  The  principal  coin,  that  professed  to  be  silver,  had  come 
to  contain  no  more  than  5  per  cent  of  that  metal,  and  this  proportion 
sank  afterwards  to  2  per  cent.  What  a  government  gains  by  making 
its  payments  in  corrupted  coin  is  always  more  than  lost  in  the  revenue 
which  it  receives.  The  debasement  of  the  coinage  means  a  lightening 
of  taxation,  and  it  is  never  possible  to  enhance  the  nominal  amount 
receivable  by  the  exchequer  so  as  to  keep  pace  with  the  depreciation. 
The  effect  of  this  in  the  Roman  Empire  was  greater  than  it  would 
have  been  at  an  earlier  time,  since  there  is  reason  to  believe  that  much 
of  the  revenue  formerly  payable  in  kind  had  been  transmuted  into 
money.  A  measure  of  Aurelian  had  the  effect  of  multiplying  by  eight 
such  taxes  as  were  paid  in  coin.  As  the  chief  (professing)  silver  coin 
had  twenty  years  earlier  contained  eight  times  as  much  silver  as  it 
had  come  to  contain,  he  claimed  that  he  was  only  exacting  what  was 
justly  due,  but  his  subjects  naturally  cried  out  against  his  tyranny. 
No  greater  proof  of  the  disorganization  of  the  whole  financial  system 
could  be  given  than  lies  in  the  fact  that  the  treasury  issued  sack  loads 
(folles)  of  the  Antoniani,  first  coined  by  Caracalla,  which  were  intended 
to  be  silver,  but  were  now  all  but  base  metal  only.  These  folles 
passed  from  hand  to  hand  unopened. 

54.    THE  EFFECT  OF  ROMAN  DEBASEMENTS' 
By  GEORGE  FINLAY 

The  depreciation  in  the  value  of  the  circulating  medium  during 
the  fifty  years  between  the  reign  of  Caracalla  and  the  death  of  Cial- 
lienus  annihilated  a  great  part  of  the  trading  capital  in  the  Roman 

'  Adapted  from  A  History  of  Greece,  I,  52.     (The  Clarendon  Press,  1877.) 


92  PRINCIPLES  OF  MONEY  AND  BANKING 

Empire,  and  rendered  it  impossible  to  carry  on  commercial  transac- 
tions, not  only  with  foreign  countries  but  even  with  distant  provinces. 
Every  payment  was  liable  to  be  greatly  diminished  in  real  value,  even 
when  it  was  nominally  the  same.  This  state  of  things  at  last  induced 
capitalists  to  hoard  their  coins  of  pure  gold  and  silver  for  better  days; 
and  as  these  better  days  did  not  occur,  all  memory  of  many  hoards 
was  lost,  and  the  buried  treasures,  consisting  of  select  coins,  have 
often  remained  concealed  until  the  present  time.  Thus  the  frauds 
of  the  Roman  emperors  have  filled  the  cabinets  of  collectors  and  the 
national  museums  of  modern  Europe  with  wall-preserved  coins. 

The  laws  which  regulate  the  distribution,  the  accumulation,  and 
the  destruction  of  wealth,  the  demand  for  labor,  and  the  gains  of 
industry,  attest  that  the  depreciation  of  the  currency  was  one  of  the 
most  powerful  causes  of  the  impoverishment  and  depopulation  of  the 
Roman  Empire  in  the  third  century,  and  there  can  be  no  doubt  that 
Greece  suffered  severely  from  its  operation. 

55.    KING  JAMES'  BRASS  MONEY^ 
By  THOMAS  BABINGTON  MACAULAY 

When  James  II,  after  abdicating  and  fleeing  to  France,  had 
returned  to  Dublin  in  1689  and  was  seeking  to  regain  his  throne  by 
the  aid  of  an  Irish  Parliament,  he  found  himself  hampered  by  an 
empty  treasury.  Could  he  at  once  extricate  himself  from  his  financial 
difficulties  by  the  simple  process  of  calling  a  farthing  a  shilling  ?  He 
reasoned  that  since  the  right  of  coining  money  belonged  to  the  royal 
prerogative,  the  right  of  debasing  the  coinage  must  also  belong  to  it. 

Pots,  pans,  knockers  of  doors,  pieces  of  ordnance  which  had  long 
been  past  use,  were  carried  to  the  mint.  In  a  short  time  lumps  of 
base  metals,  nominally  worth  near  a  shilling  sterling,  intrinsically 
worth  about  one-sixteenth  part  of  that  sum,  were  in  circulation.  A 
royal  edict  declared  these  pieces  to  be  legal  tender  in  all  cases  whatso- 
ever. A  mortgage  for  a  thousand  pounds  was  cleared  off  by  a  bag 
of  counters  made  out  of  old  kettles.  Any  man  who  belonged  to  the 
caste  now  dominant  could  walk  into  a  shop,  lay  on  the  counter  a  bit 
of  brass  worth  three  pence,  and  carry  off  goods  to  the  value  of  half  a 
guinea.  Legal  redress  was  out  of  the  question.  Indeed,  the  sufferers 
tliought  themselves  happy  if  by  the  sacrifice  of  their  stock  in  trade 
they  could  redeem  their  limbs  and  their  lives.    Of  all  the  plagues  of 

'  Adapted  from  History  of  England  (1848),  chap.  xii. 


EARLY  EXPEDIENTS  FOR  INCREASING  THE  CURRENCY      93 

that  time  none  made  a  deeper  or  a  more  lasting  impression  on  the 
minds  of  the  Protestants  of  Dublin  than  the  plague  of  brass  money. 

56.    COINAGE  DEBASEMENTS  IN  ENGLAND' 
By  JAMES  MACLAREN 

When  the  method  of  reckoning  by  pounds,  shillings,  and  pence 
was  introduced  into  this  country  by  William  the  Conqueror,  a  certain 
amount  of  pure  silver  was  allotted  to  each  coin;  the  pound  sterling 
and  the  shilling  were  then,  indeed,  but  imaginary  money,  the  largest 
silver  coin  in  existence  being  the  penny,  which  contained  the  two 
hundred  and  fortieth  part  of  a  pound  of  silver;  but  a  shilling  if  then 
coined  would  have  contained  the  twentieth  part  of  a  pound,  and  the 
pound  sterling  would  have  weighed  a  pound. 

Our  kings  soon  began  to  debase  the  currency  by  diminishing  the 
quantity  of  pure  metal  contained  in  the  coins  without  altering  their 
denomination;  their  motive,  according  to  Lord  Liverpool,  being  not 
merely  the  gain  which  they  themselves  obtained  by  making  more 
money  out  of  the  same  amount  of  bullion,  but  also  a  desire  to  increase 
the  wealth  of  their  subjects,  which  they  supposed  to  depend  upon  the 
quantity  of  money  in  the  country,  so  ancient  is  the  theory  which 
attributes  a  power  of  increasing  the  national  prosperity  to  an  exten- 
sion of  the  currency.  These  debasements  were  practiced  to  a  great 
extent  in  the  later  years  of  the  reign  of  Henry  VIII,  and  in  the  begin- 
ning of  that  of  his  son,  who,  however,  afterwards  prepared  a  scheme 
for  the  restoration  of  the  coinage  to  its  former  standard,  which,  with, 
some  modification,  was  carried  into  effect  by  Elizabeth. 

57.     REASONS  FOR  DEBASING  THE  STANDARD' 
By  JOSEPH  HARRIS 

The  causes  of  the  adulteration  of  our  coinage  may  be  listed  as 
follows: 

1.  I  have  often  heard  it  asserted  that  our  standard  of  money  is 
too  good,  and  should  therefore  be  debased. 

2.  Debasing  the  standard  is  urged  as  a  means  of  increasing  the 
currency,  by  giving  old  names  to  smaller  pieces  of  money. 

"  Adapted  from  History  of  the  Currency,  pp.  1-2.     (Edward  Buminis,  187Q.) 

'Adapted  from  An  Essay  on  Money  and  Coins  (1757).     Reprinted  in  Select 

Currency  Tracts,  pp.  566-67. 


94  PRINCIPLES  OF  MONEY  AND  BANKING 

3.  Debasements  are  necessary  to  keep  coin  from  being  melted 
or  exported. 

4.  A  gradual  debasement  would  not  be  perceived  and  would  there- 
fore do  no  injury  to  anyone. 

5.  Many  of  our  coins  are  light  from  long  use,  and  to  prevent  con- 
fusion the  new  coins  should  be  of  the  same  weight  as  the  abraded 
ones. 

58.    A  DEFENSE  OF  THE  PRACTICE' 
By  DAVID  HUME 

While  an  increase  in  the  quantity  of  specie  will  in  time  raise  prices 

and  thus  offset  the  apparent  gain,  it  may  increase  to  a  considerable 
pitch  before  it  has  this  latter  effect.  In  the  frequent  operations  of  the 
French  king  on  the  money,  it  was  always  found  that  the  augmenting 
of  the  numerary  value  did  not  produce  a  proportional  rise  in  prices,  at 
least  for  some  time.  In  the  last  year  of  Louis  XIV  money  was  raised 
three-sevenths,  but  prices  augmented  only  one-seventh.  Coin  in 
France  is  now  sold  at  the  same  price,  or  for  the  same  number  of  livres, 
it  was  in  1683,  though  silver  was  then  30  livres  the  mark,  and  is 
now  at  50. 

This  seems  to  be  one  of  the  best  reasons  for  a  gradual  and 
universal '  augmentation  of  the  money  which  can  be  given.  Were 
all  our  money,  for  instance,  recoined,  and  a  penny's  worth  of  silver 
taken  from  every  shilling,  the  new  shilling  would  probably  purchase 
everything  that  could  have  been  bought  by  the  old;  the  prices  of 
everything  would  thereby  be  insensibly  diminished;  foreign  trade 
enlivened;  and  domestic  industry,  by  the  circulation  of  a  greater 
number  of  pounds  and  shillings,  would  receive  some  increase  and 
encouragement. 

In  every  kingdom  into  which  money  begins  to  flow  in  greater 
abundance  than  formerly,  everything  takes  on  a  new  face;  labor  and 
industry  gain  life;  the  merchant  becomes  more  enterprising;  the 
manufacturer  more  diligent  and  skilful;  and  even  the  farmer  follows 
his  plow  with  greater  alacrity  and  attention.* 

'  Adapted  from  Political  Discourses  (1752),  pp.  46-49. 

'  Hume  points  out,  however,  that  in  time,  if  the  debasement  is  considerable, 
the  rising  prices  wiU  prove  rather  a  disadvantage  than  an  advantage. — Editor. 


EARLY  EXPEDIENTS  FOR  INCREASING  THE  CURRENCY      95 

59.    GRESHAM'S  LAW  AND  THE  FAILURE  OF  DEBASE^IENTS' 
By  W.  STANLEY  JEVONS 

Sir  Thomas  Gresham,  a  royal  agent  of  Elizabeth,  pointed  out 
how,  by  debasement,  two  kinds  of  metallic  money,  although  nominally 
of  equal  value,  could  not  be  kept  in  concurrent  circulation.  In  the 
exchanges,  wherein  coins  are  valued  according  to  weight,  the  inferior 
were  separated  from  the  superior  coins,  and  the  latter  were  exported. 

Though  the  public  generally  do  not  discriminate  between  coins 
and  coins,  provided  there  is  an  apparent  similarity,  a  small  class  of 
money-changers,  bullion-dealers,  bankers,  or  goldsmiths  make  it 
their  business  to  be  acquainted  with  such  differences,  and  know 
how  to  derive  a  profit  from  them.  These  are  the  people  who  fre- 
quently uncoin  monc}',  either  by  melting  it  or  exporting  it  to  countries 
where  it  is  sooner  or  later  melted.  Hence  arises  the  practice,  exten- 
sively carried  on  in  the  present  day  in  England,  of  picking  and  culling, 
or,  as  another  technical  expression  is,  garbling  the  coinage,  devoting 
the  good  new  coins  to  the  melting-pot,  and  passing  the  old  worn  coins 
into  circulation  again  on  every  suitable  opportunity. 

In  all  other  matters  everybody  is  led  by  self-interest  to  choose  the 
better  and  reject  the  worse;  but  in  the  case  of  money,  it  would  seem 
as  if  they  paradoxically  retain  the  worse  and  get  rid  of  the  better.  The 
ex-planation  is  very  simple.  The  people,  as  a  general  rule,  do  not 
reject  the  better,  but  pass  from  hand  to  hand  indifferently  the  heavy 
and  the  light  coins,  because  their  only  use  for  the  coin  is  as  a  medium 
of  exchange.  It  is  those  who  are  going  to  melt,  export,  hoard,  or 
dissolve  the  coins  of  the  realm,  or  convert  them  into  jewelry  and 
gold  leaf,  who  carefully  select  for  their  purposes  the  new,  heavy 
coins. 

'  Adapted  from  Money  and  the  Mechanism  of  Exchange  (1875),  pp.  79-81. 
(D.  Appleton  &  Co.) 


IV 
THE  STANDARD  QUESTION:    BIMETALLISM 

Introduction 

Monetary  controversies  have  centered  mainly  around  the  ques- 
tion, What  should  constitute  the  basis  of  the  monetary  system? 
The  general  problem  here  involved  has  numerous  phases  and  its 
adequate  presentation  requires  several  chapters.  While  in  its  broad 
outlines  it  involves  primarily  only  the  question  of  bimetaUism  and 
of  government  paper  money,  for  chronological  reasons,  as  well  as  for 
clarity  of  exposition,  its  treatment  is  best  broken  up  into  several 
divisions,  as  is  indicated  by  the  sectional  headings  IV  to  VII  inclusive. 

In  the  present  section  we  are  concerned  with  bimetallism,  first, 
as  to  general  theory,  and,  secondly,  as  to  its  practical  success  in 
operation  up  to  1873.  By  the  general  theory  of  bimetalHsm  we  mean 
the  arguments  in  its  favor  that  have  been  advanced  by  scientific  stu- 
dents, as  distinguished  from  the  views  presented  by  the  general  public 
in  connection  with  monetary  propagandas.  In  raising  the  problem  of 
bimetallism  a  frequent  source  of  confusion  must  be  carefully  noted. 
The  "standard"  question  in  our  monetary  history  did  not  center 
around  the  common  denominator  or  measure  of  value.  The  bime- 
taUic  controversy  was  waged,  on  the  one  hand,  over  the  adequacy 
of  a  single  metal,  alone,  to  serve  the  needs  of  trade  as  a  medium  of 
exchange,  and,  on  the  other,  to  furnish  the  stabiHty  required  for  a 
good  standard  of  deferred  payments.  So  far  as  serving  merely  as  a 
common  denominator  of  value  at  a  given  moment  of  time  is  con- 
cerned, a  great  quantity  of  the  money  material  is  not  required, 
nor  is  stability  of  value  particularly  important.  Although  it  is 
LQConceivable  that  any  commodity  should  come  to  be  used  as  a 
common  denominator  of  value  that  had  not  exhibited  a  relatively 
stable  value  in  the  past — stable  enough  to  mean  something  fairly 
definite  to  those  who  would  reckon  by  it — nevertheless,  when  it 
is  once  adopted  future  changes  in  its  value  become  of  minor  con- 
sequence. General  pricey  are  merely  higher  or  lower,  as  the  case  may 
be,  and  so  far  as  comparing  relative  values  at  a  given  moment  is 
concerned  it  still  serves  satisfactorily  enough.      But  not  so  when  the 

96 


THE  STANDARD  QUESTION:   BIMETALLISM  97 

time  element  enters.  A  change  in  the  level  of  prices  works  havoc 
with  time  contracts  and  seriously  deranges  business  affairs;  and  a 
first  requisite  for  a  satisfactory  standard  of  deferred  payments  is 
stability  of  value.  The  quantity  of  money  and  the  stability  of  its 
value  are  problems  which  are  really  connected  only  with  the  functions 
as  medium  of  exchange  and  standard  of  deferred  payments.  The 
readings  in  this  and  the  following  chapters,  therefore,  are  concerned 
with  money  only  as  a  medium  of  exchange  and  as  a  standard  of 
deferred  payments.  A  loose  use  of  terms  in  connection  with  the 
various  functions  of  money  has  resulted  in  much  confusion  of  issues 
and  it  is  particularly  important  to  keep  the  distinctions  just  made 
constantly  in  mind. 

Bimetallism  appears  to  have  been  universally  in  use  in  Europe 
until  the  nineteenth  century,  though  without  any  conscious  adoption 
on  the  part  of  the  various  nations.  Both  gold  and  silver  were  money, 
as  a  matter  of  course,  after  once  their  superiority  to  other  commodities 
for  monetary  purposes  had  been  demonstrated.  The  general  belief 
that  a  large  quantity  of  money  is  synonymous  with  great  wealth 
appears  to  have  been  mainly  responsible  for  this  universal  acceptance 
of  bimetallism  as  a  mere  matter  of  course.  To  the  mercantilist  of 
the  seventeenth  and  eighteenth  centuries  the  demonetization  of 
either  gold  or  silver  would  have  seemed  nothing  short  of  suicidal. 
And  it  may  fairly  be  said  that,  even  with  a  correct  analysis  of 
the  real  functions  performed  by  money  in  mind,  it  might  appear 
that  there  was  a  genuine  need  for  using  both  gold  and  silver  as 
money  during  this  period.  Reference  to  the  table  of  the  production 
of  the  precious  metals  (No.  44)  shows  that  after  the  opening  of  the 
mines  of  the  New  World  in  the  sixteenth  century,  the  annual  produc- 
tion was  not  enormous.  Doubtless  it  was  no  more  than  adequate  to 
the  needs  of  the  rapidly  expanding  commerce  of  the  age.  This  table 
of  the  production  of  the  precious  metals,  it  may  be  stated  parentheti- 
cally, should  also  be  constantly  studied  in  connection  with  the  later 
stages  of  the  bimetallic  controversy,  for  the  controversies  that  have 
arisen  are  largely  attributable  to  changes  in  productivity  at  the 
mines  of  gold  and  silver. 

The  crux  of  the  difficulty  with  bimetallism  is  found  in  the  varia- 
tions in  value  of  the  metals  jointly  serving  as  the  standard,  and  these 
variations  in  turn  are  obviously  due  to  the  conditions  governing  the 
relation  of  supply  and  demand  for  the  precious  metals.  Given  varia- 
tions in  the  market  ratio  of  the  two  metals,  the  operation  of  Grcsham's 


98  PRINCIPLES  OF  MONEY  AND  BANKING 

law  works  havoc  with  the  system.  It  was  necessary,  however,  for  a 
good  system  of  coinage  to  be  developed  before  the  operation  of 
Gresham's  law  in  connection  with  bimetallism  could  well  be  discerned. 
The  whole  problem  was  long  obscured  because  of  the  perennial 
debasements  of  the  currency  and  the  perpetual  mutilation  of  the 
coinage.  "  Bad  money  [mutilated  or  debased]  drives  out  good 
money."  When  a  uniform  currency  was  achieved  it  was  observed 
that  Gresham's  law  still  operated — that  legally  overvalued  money 
would  drive  out  legally  undervalued  money;  hence  the  retention  of 
bimetallism  became  a  debatable  question. 

The  argument  on  the  compensatory  action  of  a  bimetallic  standard 
has  commonly  been  put  forward  as  a  positive  argument  for  bimetal- 
lism. In  fact,  however,  it  is  rather  a  negative  argument,  advanced 
in  refutation  of  the  contention  that  since  the  relative  values  of  gold 
and  silver  can  never  be  kept  steady,  owing  to  variations  in  the  condi- 
tions governing  supply  and  demand,  Gresham's  law  will  operate  to 
defeat  the  maintenance  of  a  double  standard.  In  the  readings, 
therefore,  the  compensatory  action  is  separated  from  the  argument 
for  bimetallism  and  placed  by  itself  following  the  discussion  of  the 
operation  of  Gresham's  law. 

The  history  of  the  double  standard  in  various  countries  shows 
unmistakably  that  bimetaUism  when  practiced  by  one  nation  inde- 
pendently of  others  is  not  a  workable  system;  and  the  various  nations 
have  abandoned  it  one  by  one.  This  abandonment,  however,  did 
not  come  without  a  vigorous  effort  on  the  part  of  bimetalUsts  to  secure 
the  adoption  of  international  bimetallism.  It  was  believed  by  many 
scientific  students  of  the  question  that  an  international  bimetaUic 
system  would  be  free  from  the  objections  to  national  bimetallism. 
The  failure  to  secure  its  adoption,  however,  after  thirty  years  of  effort 
compels  us  to  subject  its  merits  to  the  test  of  theory  rather  than  of 
actual  practice.  The  Latin  Monetary  Union  was  the  nearest  approach 
to  international  bimetallism  that  we  have  had,  but  it  cannot  be 
regarded  as  a  real  test  of  the  principles  involved. 

A.     General  Principles 

60.    THE  VARIOUS  KINDS  OF  STANDARDS 

The  three  primary  functions  of  money  are  to  serve  as  a  medium 
of  exchange,  a  common  denominator  of  value,  and  a  standard  of 
deferred  payments.     While  it  is  theoretically  possible  that  we  might 


THE  STANDARD  QUESTION:  BIMETALLISM  99 

sharply  differentiate  these  functions  and  use  a  separate  commodity 
for  each,  it  is  the  usual  practice  to  employ  the  same  commodity,  or 
commodities,  for  all.  Indeed,  it  is  almost,  if  not  quite,  universal  that 
the  same  commodity  serves  as  both  a  common  denominator  of  value 
and  a  standard  of  deferred  payments;  where  differentiation  occurs 
it  is  only  with  reference  to  the  exchange  function.  The  choice  of  a 
good  standard,  then,  has  been  influenced  by  varying  considerations; 
among  these  the  quantity  of  the  monetary  material  and  its  stabiUty 
of  value  are  of  the  greatest  importance.  Once  the  choice  of  the  money 
material  had  narrowed  down  to  the  precious  metals,  the  problem 
usually  became  one  of  a  choice  between  gold  and  silver,  or  the  con- 
current use  of  both. 

The  single  standard,  or  monometallism,  is  one  in  which  a  single 
metal  is  used  as  the  basis  of  the  monetary  system.  If  gold,  for 
instance,  is  chosen  for  this  purpose,  silver,  as  well  as  nickel  and 
copper. and  the  various  forms  of  paper  currency,  occupies  but  a  sub- 
sidiary position  in  the  system.  There  is  restricted  coinage  of  silver 
and  the  bullion  content  is  of  less  value  than  the  coined  money. 

Under  bimetallism,  or  a  double  standard,  two  metals  are  made  the 
basis  of  the  system.  Both  are  freely  accepted  at  the  mints,  and  they 
are  coined  at  a  given  legal  ratio,  adjusted  as  nearly  as  may  be  to  the 
current  market  ratio  of  the  two  metals  in  the  form  of  bullion. 

With  the  parallel  standard,  the  two  metals  are  freely  accepted  at 
the  mints,  but  are  not  coined  as  dollars  or  sovereigns  at  a  given  legal 
ratio  of  weights.  Under  bimetallism  one  ounce  of  gold  when  coined 
equals  in  value,  say,  sixteen  ounces  of  silver;  and  individuals  are 
expected  to  exchange  them  at  that  precise  ratio  regardless  of  their 
relative  bullion  values.  With  the  parallel  standard,  on  the  other  hand, 
the  pieces  of  money  are  coined  merely  as  so  many  ounces  or  pounds 
of  metal;  and  no  legal  ratio  is  laid  down.  They  pass  legally  only  at 
their  market  ratio  as  it  is  adjusted  from  time  to  time  by  the  play  of 
economic  forces. 

A  limping  standard  is  not  a  true  standard,  but  rather  a  temporary 
j)hcnomenon  found  in  the  process  of  transition  from  bimetallism  to 
monometallism.  With  such  a  standard,  only  one  metal  enjoys  free 
coinage;  but  the  second  retains  full  legal-tender  power  and  is  per- 
haps not  directly  redeemable  in  gold.  It  is  also  usually  called  a 
standard  from  force  of  habit. 

A  kind  of  limping  standard  known  as  the  gold-exchange  standard 
has  been  developed  in  recent  years.     By  means  of  the  gold  exchange, 


100  PRINCIPLES  OF  MONEY  AND  BANKING 

countries  which  are  not  on  a  strictly  gold  basis  are  nevertheless  enabled 
to  keep  their  currency  at  suljstantial  parity  with  gold  in  other  coun- 
tries. This  is  accomplished  by  means  of  redemption  in  foreign 
exchange.  The  government  or  its  agents,  while  not  redeeming  its 
currency  in  gold,  redeems  it  in  orders  on  gold  abroad.  When  there 
is  a  demand  for  redemption  of  silver  the  government  sells  bills  of 
exchange  on  London  or  New  York  at  a  stated  price  in  gold.  The 
silver  received  from  the  sale  of  exchange  is  withdrawn  from  circulation 
until  demand  for  redemption  ceases.  It  will  be  observed  that  this 
system  is  one  of  indirect  redemption  of  silver. 

Another  form  of  standard  is  that  of  irredeemable  paper.  In  one 
sense  this  is  obviously  a  single  standard;  but  it  differs  from  mono- 
metallism in  that  the  currency  material  is  not  a  commodity  having  a 
value  independent  of  its  monetary  use,  as  in  the  case  of  the  precious 
metals.  With  irredeemable  paper  money  the  paper  is  issued  by  the 
government  and  declared  to  be  the  standard  of  value.  It  is  made 
legal  tender  in  payment  of  debts  and  is  receivable  by  the  government 
in  all  obligations  due  from  individuals.  It  is  supposed  to  get  its 
value  either  from  the  "fiat"  of  the  state  which  issues  it,  or  by  means 
of  a  monopolistic  limitation  of  the  supply. 

An  irredeemable  paper  standard  entirely  independent  of  other 
standards  has  seldom  been  tried.  Paper  money  is  usually  bovmd  up  in 
one  way  or  another  with  other  forms  of  money,  being  used  merely 
as  a  medium  of  exchange,  with  metals  as  the  money  of  account,  or 
being  only  temporarily  irredeemable,  that  is,  at  some  future  time 
convertible  into  specie. 

The  multiple  standard  is  a  device  calculated  to  produce  an  unvary- 
ing standard  of  deferred  payments,  and  has  no  reference  to  the  medium 
of  exchange.  The  prices  of  a  large  list  of  representative  commodities 
are  combined  for  a  given  year  or  period  of  years  into  a  base  or  index 
number,  loo.  This  represents  the  purchasing  power  of  money  at 
the  given  time.  Each  year  or  month  or  week  thereafter  the  new  prices 
of  these  commodities  are  averaged  and  the  variation  from  the  base 
number,  loo,  indicates  the  changes  in  the  purchasing  power  of  money 
that  have  occurred.  If  the  index  number  becomes  no,  then  $iio 
must  be  returned  by  a  debtor  for  every  Sioo  that  had  been  con- 
tracted when  the  base  was  loo.  If  the  index  number  becomes  95, 
then  similarly  only  $95  need  be  paid  by  a  debtor.  In  this  way  the 
inequalities  resulting  from  a  fluctuating  standard  would  be  eliminated. 


THE  STANDARD  QUESTION:  BIMETALLISM  loi 

6i.    THE  VALUE  OF  ST.\KDAIID  MONEY 

When  a  given  commodity  is  chosen  as  a  common  denominator 
of  value  its  function  is  to  serve  as  a  means  of  comparing  the  exchange 
ratios  of  commodities  in  general.  Thus  the  relative  values  of  wheat 
and  corn  are  expressed  by  comparing  each  separately  with  the  money 
of  account.  If  a  bushel  of  wheat  exchanges  for  one  dollar  in  standard 
gold,  and  a  bushel  of  com  for  one-half  dollar,  the  ratio  of  wheat  to 
corn  is  found  to  be  two  to  one.  The  foregoing  process,  however, 
obviously  first  involves  a  direct  comparison  of  each  commodity  with 
money;  and  since  the  standard  itself  is  a  commodity,  this  first  value 
relation,  or  price,  as  it  is  called,  is  a  result  of  the  general  conditions 
of  demand  and  supply  as  affecting  the  standard  on  the  one  hand  and 
the  commodity  to  be  compared  with  it  on  the  other. 

When  a  commodity  is  chosen  as  a  standard  for  deferred  payments 
we  have  a  similar  comparison  of  goods  with  the  standard,  but  with  a 
time  element  introduced.  It  is  in  connection  with  deferred  payments, 
moreover,  that  the  standard  controversies  have  mainly  arisen. 

Since  gold  serves  as  a  common  denominator  of  value  and  a  stand- 
ard of  deferred  payments,  it  is  important  that  one  understand  the 
forces  regulating  its  value.  The  supply  of  gold  is  obviously  influenced 
directly  by  the  conditions  of  production  at  the  mines.  The  discovery 
of  a  bonanza  mine  tends  to  depress  the  value  of  gold  as  a  standard 
through  increasing  its  supply;  and  the  exhaustion  of  a  rich  vein  of 
ore  would  conversely  tend  to  raise  the  value  of  the  standard  through 
decreasing  the  supply. 

Changes  in  the  cost  of  producing  gold  have  not  in  the  past  had 
much  effect  upon  the  quantity  produced,  owing  to  the  speculative 
character  of  gold  mining.  It  has  been  stated  that  the  cost  of  produ- 
cing gold  has  probably  on  the  whole  exceeded  its  value,  and  that  the 
losses  sustained  by  the  many  who  search  in  vain  have  outweighed 
the  gains  of  the  fortunate  few.  In  recent  years,  however,  with  the 
rapid  disappearance  of  placer  mining  and  the  necessity  of  providing 
an  ex-pensive  equipment  for  extracting  gold  ore,  the  cost  of  production 
has  come  to  be  carefully  considered.  There  are  marginal  mines  where 
it  barely  pays  to  take  out  the  gold,  just  as  there  are  marginal 
farms  and  marginal  factories.  It  is  doubtless  true,  however,  that  the 
lure  of  the  yellow  metal  will  indefinitely  continue  to  play  its  part  in 
the  production  of  gold,  and  thus  render  a  portion  of  the  supply 
dependent  upon  chance. 


I02  PRINCIPLES  OF  MONEY  AN[>  NANKING 

Gold  differs  from  other  commodities,  also,  in  that  the  supply  at 
any  given  time  is  not  merely  the  output  of  a  previous  year's  mining 
operations;  it  is  a  stock  that  has  been  accumulated  through  centuries 
of  production.  Gold  is  a  highly  durable  commodity,  and  as  a  result 
the  world's  supply  becomes  larger  each  year,  even  though  the  annual 
production  may  be  rapidly  decreasing.  The  greater  part  of  all  the 
gold  mined  since  1850  is  still  in  existence  and  performing  service 
quite  as  though  it  were  fresh  from  the  mines  of  the  Klondike.  The 
result  of  this  accumulated  world's  supply  is  to  render  any  yearly 
change  in  output  less  and  less  effective  in  influencing  the  value. 
Pouring  a  cup  of  water  in  a  large  tank  has  but  slight  effect 
upon  the  level  of  the  water  in  the  tank.  Similarly  the  discharging 
of  a  $10,000,000  increased  output  of  gold  into  a  total  world's  supply 
of  eight  or  nine  billions  can  have  but  little  effect  upon  the  value  of  the 
whole  if  other  factors  remain  unchanged.  A  great  increase  extended 
over  a  number  of  years  may,  however,  obviously  have  a  substantial 
effect  upon  the  value  of  the  standard  metal. 

The  demand  for  gold  is  twofold:  for  use  as  a  commodity  in  the 
manufacturing  and  industrial  arts,  and  for  employment  as  a  medium 
of  exchange  and  as  a  basis  of  monetary  systems.  The  demand  for 
gold  as  a  commodity  is,  of  course,  subject  to  the  same  general  con- 
ditions as  the  demand  for  any  other  commodity.  It  has  utility 
in  the  satisfaction  of  human  desires,  and  this  utility  is  affected 
by  degree  of  scarcity,  change  of  customs,  possibility  of  substi- 
tuting other  commodities,  etc.,  in  the  same  way  that  the  utility 
of  other  commodities  is  affected.  For  monetary  uses,  however,  the 
demand  for  money  is  sometimes  said  to  be  unlimited  where  free 
coinage  exists.  Since  all  the  gold  produced  may  be  taken  to  the 
mints  and  converted  into  dollars  or  sovereigns,  it  would  seem  that 
there  is  a  permanent  and  unchanging  demand.  This  view,  however, 
overlooks  the  intensity  of  demand.  It  is  true  that  monetary  systems 
will  absorb  the  entire  quantity  of  gold  offered;  and  it  is  true  that  the 
number  of  grains  put  in  a  dollar  may  remain  unchanged.  But  if  the 
supply  is  greatly  increased,  the  purchasing  power  of  gold  may  never- 
theless be  lessened.  Almost  any  quantity  of  wheat  would  be  demanded, 
at  some  price,  but  a  doubling  of  the  total  supply  would  substantially 
lessen  the  exchange  value  of  a  given  bushel.  It  is  precisely  similar 
in  the  case  of  gold. 

An  increase  in  the  monetary  demand  for  gold  would  be  caused 
by  the  giving  up  of  silver  as  a  standard  metal  in  leading  countries; 


THE  STANDARD  QUESTION:  BIMETALLISM  103 

by  an  increased  use  of  gold  as  a  medium  of  exchange;  by  an  increase 
in  the  quantity  of  gold  required  as  reserve  for  substitute  forms  of 
money;  by  an  expansion  of  commerce  and  trade;  or  by  a  less 
effective  use  of  gold  through  poor  organization  of  credit.  A  decrease 
in  the  monetary  demand  for  gold  would  result  from  opposite  causes. 

62.    THE  POPULAR  CONCEPTIOX  OF  A  "DOLLAR"' 
By  SIMON  NEWCOMB 

So  far  as  intellectual  conceptions  go,  it  ought  to  be  perfectly 
obvious  that  calling  a  piece  of  metal,  or  a  piece  of  paper,  one  dollar 
no  more  gives  it  value  than  calling  a  ruler  one  foot  gives  it  length. 
It  should  be  just  as  easy  to  suppose  two  different  kinds  of  dollars,  say 
a  piece  of  silver  and  a  piece  of  gold,  both  declared  equal  dollars  by 
act  of  Congress,  to  have  different  actual  values,  as  to  conceive  of 
two  scales,  made  in  different  parts  of  the  country,  and  both  declared 
legal  yards,  having  different  lengths.  As  a  matter  of  fact,  however, 
the  conception  is  not  so  easy  when  applied  to  any  concrete  case. 
The  quality  of  length  is  evident  to  the  senses,  and  the  conception  of 
this  quality  can  be  gained  by  simply  looking  at  an  object.  The  qual- 
ity called  value  not  only  evades  all  examination  by  the  senses,  but  its 
very  conception  is  so  abstract  and  difficult  that  the  ablest  economists 
are  not  yet  fully  agreed  as  to  its  statement.  Little  wonder,  then,  if 
the  typical  man  should  feel  much  satisfaction  at  being  worth  twice 
as  many  dollars  this  year  as  he  was  last,  even  if  the  dollars  themselves 
are  worth  only  half  as  much,  or  feel  impoverished  by  a  great  reduction 
of  his  money  values,  though  he  could  still  command  as  many  of  the 
utilities  of  life  as  he  could  before. 

63.    THE  "SCIENTIFIC"  ARGUMENT  FOR  BIMETALLISM' 
By  FRANCIS  A.  WALKER 

The  first  advantage  possessed  by  bimetallism  is  that  two  metals 
constitute  a  better  money  than  either  metal  by  itself  could  be.  The 
mining  of  the  precious  metals  has  in  all  ages  been  a  work  of  highly 
spasmodic  and  often  intermittent  activity.  Moreover,  each  metal 
has  its  peculiar  sources  and  conditions  of  supply.  The  bimetallist, 
therefore,  argues  that  it  is  reasonable  to  anticipate  that  the  variations 
in  production  of  the  one  will,  in  a  degree  greater  or  less,  offset  those 

'Adapted  from  "Has  the  Standard  Gold  Dollar  Appreciated?"  Journal  of 
Political  Economy,  September,  1893,  PP-  503~4- 

'  Adapted  from  Money,  Trade  and  Industry,  pp.  157-58.  (Henrv  Holt  &  Co., 
1889.) 


I04  PRINCIPLES  OF  MONEY  AND  BANKING 

of  the  other.  They  will  not  be  likely  to  fall  off  in  their  yield  at  the 
same  time  and  to  the  same  amount.  It  would  be  too  much  to  expect 
that  the  maximum  production  of  one  would  coincide  with  the  mini- 
mum production  of  the  other.  But  the  irregularities  of  mining  for- 
tune could  scarcely  fail  to  secure  a  more  equable  yield  of  the  two  metals 
taken  together  than  of  one  separately. 

This  contention,  moreover,  is  fully  borne  out  by  the  facts  of 
production  during  the  present  century. 

On  this  point  the  monometallist  alleges  that  gold  and  silver, 
having  their  separate  sources  and  conditions  of  supply,  are  likely 
to  be  produced  irregularly  as  compared  with  each  other;  that  now 
gold  and  now  silver  will  be  yielded  in  excess;  that,  consequently, 
their  relative  values  must  fluctuate  greatly,  and  that  a  concurrent 
circulation  of  the  two  is  not  possible. 

The  bimetallist  rejoins  that  the  considerations  alleged  show  how 
illy  either  metal  alone  is  fitted  for  its  office  as  a  standard  of  deferred 
payments,  and  establish  the  great  utility  of  so  uniting  them  in  the 
monetary  function  that  the  irregularities  of  the  production  of  one  may 
be  in  some  degree  at  least  offset  by  those  of  the  other. 

The  second  advantage  which  the  bimetallists  claim  for  their  sys- 
tem is  that,  by  the  establishment  of  a  normal  price  for  each  of  the 
two  metals  thus  joined  in  the  money  ofl&ce,  a  normal  price  of  gold 
in  terms  of  silver,  a  normal  price  of  silver  in  terms  of  gold,  a  par-of- 
exchange  is  created  and  sustained  between  the  nations  using  gold 
and  the  nations  using  silver.  The  natural  consequence  of  this  the 
bimetallists  claim  to  be  of  vast  importance  to  the  trade  and  produc- 
tion of  the  world.  A  nearly  stable  monetary  relation,  a  proper 
par-of-exchange,  is  established  between  the  portions  of  the  world 
using  silver  and  the  portions  using  gold.  The  merchant  of  a  silver 
country  exporting  his  goods  to  a  gold  country  can  always  compute 
precisely  or  approximately  what  the  gold  he  obtains  by  the  sale  of 
his  merchandise  will  be  worth  in  silver.  He  can  thus  make  his 
arrangements  for  business,  and  his  contracts  for  labor  and  material, 
with  confidence.  In  the  same  way  the  merchant  in  a  gold  country, 
exporting  his  goods  to  a  silver  country,  runs  no  risk  of  loss  through 
fluctuation  in  the  comparative  value  of  the  metals,  in  which  he  buys 
and  in  which  he  sells,  respectively.  The  two  have  a  nearly  fixed 
relation,  and  can  thus,  with  but  a  small  margin,  if  any,  be  rendered 
into  each  other  for  the  purpose  of  international  exchange.  The 
gain  to  commerce  and,  through  commerce,  to  industry,  resulting 
herefrom  is  asserted  by  the  bimetallist  to  be  very  great. 


THE  STANDARD  QUESTION:   BIMETALLISM 


105 


64.     COMMERCIAL  RATIO  OF  GOLD  AND  SILVER  SINCE  1687' 


Year 
687 
690 

69s 
700 

710 
712 

720 

725 
730 
735 
740 

745 
750 
755 
760 

765 
770 

775 
780 

785 
790 

795 
800 
801 
802 
803 
804 
805 
806 
807 
808 
809 
810 
811 
812 

813 
814 

815 
816 
817 
818 
819 
820 
821 


Ratio   Y 

14.94   I 

15 

02  I 

15 

02  I 

14 

81    I 

15 

II  I 

15 

22   I 

18 

31   I 

15 

II   I 

15 

04   I 

15 

II   I 

14 

81   I 

15 

41   I 

14 

94  I 

14 

98  I 

14 

55  I 

14 

68  I 

14 

14  I 

14 

83  I 

14 

62  I 

14 

72  I 

14 

72  I 

14 

92  I 

15 

04  I 

15 

55  I 

15 

68  I 

15 

46  I 

15 

26  I 

15 

41  I 

15 

41  I 

15 

79  I 

15 

52  1 

15 

43  I 

16 

08  I 

15 

96  I 

15 

77  I 

15 

53  I 

16 

II  I 

16 

25  I 

15 

04  I 

15 

26  I 

15 

28  I 

15 

II  I 

IS 

35  I 

15 

33     I 

15 

62  I 

15 

95  I 

Year 

1822 

1823 

1824 

182s 

1826 

1827 

1828 

1829 

1830 

1831 

1832 

1833 

1834 

1835 

1836 

1837 
1838 

1839 
1840 
1841 
1842 
1843 
1844 
1845 
1846 

1847 
1848 

1849 
1850 
1851 
1852 
1853 
1854 
1855 
1856 

1857 
1858 

1859 
1S60 

1 86 1 
1862 
1863 
1864 
1865 
1866 
1867 


Ratio    '5 

15.80   I 

15 

84   I 

15 

82   I 

15 

70   I 

15 

76   I 

15 

74  I 

15 

78  I 

15 

78   I 

15 

82   I 

15 

72   I 

15 

73  I 

15 

93  I 

15 

73  I 

15 

80  I 

15 

72  I 

15 

83  I 

15 

85  I 

15 

62  I 

15 

62  I 

15 

70  I 

14 

87  I 

15 

93  I 

15 

85  I 

15 

92  I 

15 

90  I 

15 

80  I 

15 

85  I 

15 

78  I 

15 

70  I 

15 

46  I 

15 

59  I 

15 

33     I 

15 

33     I 

15 

38  I 

15 

3S     I 

15 

27   I 

15 

38  I 

15 

19  I 

15 

29  I 

15 

50  I 

15 

35  I 

15 

37  I 

15 

37  I 

15 

44  I 

15 

43  I 

15 

57   I 

Year 

868. 
869. 
870. 
871. 
872. 
873. 
874. 
875. 
876. 

877. 
878. 

879. 
880. 
881. 
882. 
883. 
884. 
885. 
886. 
887. 


Ratio 


890. 
891. 
892. 

893. 
894. 

895. 
896. 
897. 
898. 
899. 
900. 

901  . 

902  . 

903- 
904. 

905- 
906  . 
907. 
908. 
909. 
910. 
911. 
912  . 
913- 


15 

59 

15 

60 

15 

57 

15 

57 

15 

63 

15 

92 

16 

17 

16 

59 

17 

88 

17 

22 

17 

94 

18 

40 

18 

05 

18 

16 

18 

19 

18 

64 

18 

57 

19 

41 

20 

78 

21 

13 

21 

99 

22 

10 

19 

76 

20 

92 

23 

72 

26 

49 

32 

56 

31 

60 

30 

66 

34 

20 

35 

03 

34 

36 

33 

33 

34 

68 

39 

15 

38 

10 

35 

70 

33 

87 

30 

54 

31 

24 

38 

64 

39 

74 

38 

22 

38 

33 

33 

62 

34 

19 

'  Quoted  from  Annual  Report  of  Director  of  the  Mint,  1914,  p.  213. 


Io6  PRINCIPLES  OF  MONEY  AND  NANKING 

65.     REASONS  FOR  VARIATION  IN  RELATIVE  VALUE  OF 
GOLD  AND  SILVER' 

By  FRANCIS  A.  WALKER 

It  is  easy  to  find  reasons  for  variation  in  the  gold-value  of  silver 
and  the  silver- value  of  gold. 

1.  The  precious  metals  have  in  a  great  degree  their  separate 
sources  and  conditions  of  supply.  Silver  is  generally  drawn  from 
deep  mines.  A  very  large  part  of  all  the  gold  produced  in  the  history 
of  the  world  has  been  drawn  from  "placers,"  surface  deposits,  where 
the  metal  lies  in  fine  grains  mingled  with  the  sand  in  the  beds  of  old 
rivers,  or  has  been  derived  by  the  process  of  hydraulic  mining,  where 
the  force  of  water  is  directed  by  engineering  skill  to  accomplish  the 
same  work  in  a  few  hours  which  in  the  case  of  the  "placer,"  or  "gulch- 
gold,"  has  been  done  by  centuries  of  frost  and  flood.  Hence  the 
production  of  silver  is  generally  pursued  through  systematic  mining 
operations.  The  production  of  gold  is  more  largely  influenced  by 
accidental  discoveries.  Moreover,  owing  to  its  very  low  affinity 
for  other  metals,  gold  is  largely  found  native,  while  silver,  from  the 
high  degree  of  affinity  it  exhibits,  is  generally  foimd  in  ores;  so  that 
the  problem  of  its  production  involves  both  mechanical  and  chemical 
elements. 

It  will  appear  from  what  has  been  said  that  the  comparative  pro- 
duction of  gold  and  of  silver  is  likely  to  be  influenced  greatly  by  acci- 
dental discoveries  of  deposits,  which  are  likely  especially  to  favor 
gold  production,  and  to  be  influenced  greatly,  also,  by  the  progress 
of  the  arts,  which  is  likely  especially  to  favor  silver  production. 
Europe  and  South  America  have  been  the  great  historical  silver 
continents;  Asia,  Africa,  and  Australia  have  chiefly,  almost  exclu- 
sively, produced  gold.  North  America  is  the  only  continent  that 
has  produced  the  two  metals  in  anything  like  equal  value.  First 
through  the  Mexican  mines  it  made  important  contributions  to 
the  stock  of  silver;  then  the  California  discoveries  constituted  it 
the  greatest  gold  field  of  the  world;  and  more  recently  the  extensive 
silver  deposits  of  Nevada  have  turned  the  scale  of  production  to  the 
side  of  the  other  metal. 

2.  The  precious  metals  have,  in  a  certain  degree,  their  separate 
sources  of  demand.     The  uses  of  gold  and  silver  in  the  industrial 

'Adapted  from  Money,  Trade  and  Industry, ^pp.  139-44.  (Henry  Holt  & 
Co.,  1889.) 


THE  STANDARD  QUESTION:   BLMETALLISM  107 

arts  are  widely  different.  In  the  ornamental  arts  the  tastes  of  an 
age  may  assign  a  preference  now  to  one  and  now  to  the  other.  Even 
in  their  function  as  money,  gold  and  silver  have  not  been  wholly  of 
common  or  indifferent  use.  The  habits  and  traditions  of  a  people  and 
the  scale  of  their  exchange  transactions  may  make  an  ounce  of  gold, 
for  instance,  more  desirable  for  use  as  money  than  a  certain  number  of 
ounces  of  silver,  while  among  other  people  that  quantity  of  silver 
may  have  a  decided  preference  for  the  uses  of  exchange.  Practically 
it  is  of  great  consequence  that  the  metal  or  metals  to  be  employed  els 
money,  while  possessing  high  value  for  a  given  bulk  and  weight, 
should  yet  be  found  in  quantity  sufficient  to  afford  pieces  of  such 
purity  as  to  remain  bright  and  clean  in  circulation,  of  such  size  as  to 
be  handled  and  carried  about  conveniently,  in  number  sufhcient  for 
the  needs  of  the  community.  It  is  evident  that  the  number  of  money 
pieces  will  depend  upon  the  spending  habits  of  the  people,  and  that 
these  habits  will  vary  with  their  social  condition,  the  equality  or 
inequality  with  which  wealth  is  distributed  among  the  classes  of  the 
community,  the  rapidity  of  circulation,  etc.  Copper  once  formed  a 
considerable  part  of  the  monetary  circulation  of  Europe,  with  the 
highest  advantage  to  the  commercial  community.  But  copper  has 
now  dropped  out  of  use  as  money  in  all  advancing  nations  except 
as  the  smallest  of  small  change.  Within  the  last  three  hundred  years 
silver  has  become  the  ordinary  money  of  the  civilized  world,  and  it 
has  already  become  quite  a  fashionable  doctrine  that  even  silver  has 
in  large  measure  survived  its  usefulness,  and  has  grown  too  heaw 
to  serve  as  the  money  of  communities  like  those  of  Europe  and 
North  America.  However  this  may  be,  it  is  manifest  that  in  the 
United  States,  England,  and  perhaps  France,  the  prevailing  rates  of 
wages  and  prices  are  such  as  naturally  to  create  a  preference,  from 
considerations  of  convenience  only,  for  gold,  in  place  of  silver,  as 
the  money  of  general  circulation. 

We  have  seen  that  the  so-called  precious  metals  have  each  their 
own  sources  and  conditions  of  supply  which  are  widely  different  from 
those  of  the  other,  and  that  they  have  also,  in  a  certain  degree, 
separate  sources  of  demand.  Evidently  here  is  the  occasion  for  large 
and  frequent  variations  of  value  in  the  gold-value  of  silver  and  in 
the  silver- value  of  gold. 

But  while  this  occasion  for  a  divergence  in  value  between  tJie  pre- 
cious metals  exists,  there  are  causes  which  serve  more  or  less  effectively 
to  restrain  that  divergence.     These  are: 


Io8  PRINCIPLES  OF  MONEY  AND  BANKING 

1.  The  durability  of  the  metals  already  noted.  We  have  seen 
how  this  property  tends  to  keep  the  value  of  gold  and  silver  compara- 
lively  steady,  since  the  great  mass  at  any  time  in  existence  allows  an 
excess  or  deficiency  of  production  for  one  year,  or  for  a  term  of  years, 
to  exercise  but  small  influence. 

The  same  cause  operates  to  reduce  the  extent  of  the  variations 
in  the  gold-value  of  silver  and  the  silver-value  of  gold.  If  the  crop 
of  corn  falls  ofif  in  the  same  year  in  which  the  output  of  coal  is  excep- 
tionally large,  we  look  to  see  the  power  of  a  given  quantity  of  corn 
to  purchase  coal  largely  increased;  but  a  very  great  increase  in  the 
yield  of  silver  coincidently  with  a  considerable  reduction  in  the  yield 
of  gold  could  not  seriously  affect  the  relative  value  of  the  two  metals 
unless  persisted  in  for  a  term  of  years. 

2.  The  interchangeable  use  of  the  two  metals  in  the  arts  of  decora- 
tion and  for  the  purposes  of  ornament  has  a  tendency  to  reduce 
variations  in  their  relative  value.  While  some  of  the  uses  of  each 
metal  are  characteristic,  there  is  also  a  wide  field  occupied  by  them  in 
common  or  indifferently.  Articles  of  silver  and  articles  of  gold  are 
kept  for  sale  in  the  same  shops;  they  are  sold  to  customers  in  the  same 
rank  of  life.  A  person  entering  such  a  shop  often  has  no  explicit 
intention  as  to  the  article  he  is  to  purchase.  He  is  more  likely  to 
know  how  much  he  is  prepared  to  pay  for  something  that  will  answer 
his  purpose.  He  may  buy  a  small  article  of  gold,  or  a  large  one  of 
silver.  A  fall  in  the  price  of  either  metal,  then,  promotes  its 
consumption,  and  thus  the  fall  is  in  a  degree  checked. 

3.  The  interchangeable  use  of  the  two  metals  as  the  medium  of 
exchange  has  a  strong  tendency  to  check  variations  in  their  relative 
value.  Although,  as  we  say,  each  has  uses  in  exchange  which  give 
it  a  preference  within  that  field  over  the  other,  there  is  also  ground 
which  they  occupy  in  common  or  indifferently.  For  payments  of  a 
certain  class  people  can  use  more  silver  or  less  silver,  more  gold  or 
less  gold,  with  no  appreciable  diminution  of  convenience. 

66.     GRESHAM'S  LAW  AND  BIMETALLISM 

The  operation  of  Gresham's  law,  as  in  the  case  of  debased  currency, 
has  been  the  great  barrier  to  a  successful  bimetallic  system.  Given 
two  metals  with  full  legal-tender  power  and  unrestricted  coinage 
at  the  mints  at  a  given  ratio,  one  metal  will  drive  the  other  from 
circulation,   wholly  or  in  part,  whenever  the  market  ratio   varies 


THE  STANDARD  QUESTION:   BIMETALLISM  109 

from  the  mint  ratio.  The  opportunity  for  profit  in  taking  the  cheaper 
metal  to  the  mint  will  result  in  the  expulsion  of  the  dearer  metal 
just  as  long  as  that  opportunity  continues.  It  should  be  carefully 
noted  in  this  connection  that  unlimited  coinage  of  both  metals  is 
essential  to  the  operation  of  the  law. 

Another  essential  condition  for  the  operation  of  Gresham's  law 
under  bimetallism  is  that  both  metals  should  have  equal  legal-tender 
power  in  the  settlement  of  obligations.  The  opportunity  to  secure 
the  profit  obtained  by  exchanging  coins  depends  upon  their  being 
equally  acceptable  by  law.  If  the  less  valuable  metal  can  be  refused, 
it  is  obvious  that  it  has  no  power  to  drive  out  the  more  valuable 
money.  It  is  evident  from  this  that  an  almost  instantaneous 
remedy  for  the  disappearance  of  the  dearer  money  is  the  withdrawal 
of  the  legal-tender  power  from  the  cheaper. 

67.     GRESHAM'S  LAW  QUALIFIED' 
By  ROBERT  GIFFEN 

There  is  a  good  deal  of  misunderstanding  of  the  real  law  as  to  bad 
money  "driving  out"  good,  and  an  overrated  metal  in  a  bimetallic 
system  "driving  out"  the  underrated  metal,  which  is  commonly 
spoken  of  as  the  Gresham  law.  It  is  assumed  that  the  money  driven 
out  must  be  physically  driven  out  of  the  country,  i.e.,  exported,  and 
this  export  is  regarded  as  a  fundamental  part  of  the  Gresham  law. 

The  "law,"  however,  was  only  an  observation  that  it  is  difficult, 
if  not  impossible,  for  good  and  bad  coins  of  the  same  metal  to  circu- 
late together,  and  the  good  coins  are  selected  for  exportation  when  a 
demand  for  exportation  arises.  The  export  is  not  a  necessary  part 
of  the  "law." 

In  point  of  fact,  also,  good  and  bad  coins  will  circulate  together 
in  a  given  country  as  if  they  were  all  good  when  the  circulation  itself 
is  not  in  excess  of  the  demand  for  it. 

In  the  case  where  bad  coins  drive  out  good  coins  of  the  same  metal, 
the  good  and  bad  coins  are  both  doing  the  same  work;  so  the  good  are 
driven  out  of  circulation  when  there  is  a  surplus  because  they  are  more 
useful  for  other  purposes  than  the  bad,  containing  more  of  the  metal. 
When  it  is  a  (juestion,  however,  between  two  dilTerent  metals,  the 
coins  of  the  dilTercnt  metals  may  be  performing  quite  different  work. 

'  Adapted  from  Economic  Inquiries  and  Studies  (G.  Bell  &  Sons,  London, 
1904),  II,  162-65. 


no  PRINCIPLES  OF  MONEY  AND  BANKING 

The  "driving  out"  process  in  this  last  case  must  consequently  be  a 
different  one,  when  it  takes  place,  from  what  it  is  in  the  case  of  bad 
versus  good  coins  of  the  same  metal. 

The  same  with  inconvertible  paper  versus  metal.  The  metal  and 
the  paper  may  be  required  for  different  purposes,  and  so  far  as  that  is 
the  case  the  paper  does  not  drive  out  the  metal  from  the  same  cause 
or  in  the  same  way,  or  proportions,  as  bad  coins  drive  out  good  coins 
of  the  same  metal.  Gold  is  actually  used  less  or  more  in  currency 
in  every  country  whether  gold  or  silver  is  the  standard,  or  whether 
there  is  a  bimetallic  standard  with  silver  as  the  overrated  metal;  and 
gold,  and  sometimes  silver,  is  also  used  in  inconvertible-paper  countries 
in  the  same  way,  although  the  paper  is  the  standard  money. 

What  is  true  is  that  the  overrated  metal  and  the  inconvertible 
paper  in  the  cases  supposed  drive  the  metal  they  compete  with,  the 
underrated  metal,  out  of  circulation  as  standard  money.  As  there 
can  be  only  one  standard,  the  overrated  metal  or  the  inconvertible 
paper,  as  the  case  may  be,  becomes  the  sole  standard.  But  the  under- 
rated metal  is  not  thereby  physically  driven  out  of  the  country'  at 
all.  It  depends  upon  circumstances  whether  it  is  exported  or  not 
and  how  much  the  export  is.  Three  things  happen  (besides  export, 
or  the  chance  of  it) : 

1.  The  underrated  metal  may  be  hoarded.  This  is  largely  the 
fact,  I  believe,  in  almost  all  cases  of  inconvertible  paper.  There 
were,  no  doubt,  hoards  of  gold  in  England  in  the  inconvertible  paper 
period  at  the  beginning  of  the  century,  in  the  United  States  during 
the  inconvertible  paper  regime  which  began  in  the  Civil  War,  and 
later  in  Italy  when  it  had  inconvertible  paper;  and  there  have  been 
hoards  of  gold  in  Austria,  Russia,  and  the  Argentine  Republic. 

2.  The  underrated  metal  may  be  used  in  actual  circulation  at  a 
market  ratio  different  from  the  legal  ratio.  Gold  was  always  used 
in  circulation  in  France  as  a  monetary  merchandise,  when  silver  was 
the  overrated  metal,  without  any  difficulty,  but  at  a  premium,  not 
at  the  legal  ratio. 

3.  Coins  of  the  underrated  metal  may  circulate  as  a  species  of 
token  money,  either  because  there  has  been  a  heavy  seignorage  on 
them,  or  because  they  have  become  worn  and  deteriorated,  so  that 
they  occupy  the  same  place,  and  do  the  same  work,  as  token  coinage 
of  a  different  metal  than  the  standard  does  in  a  monometallic  system. 
This  was  notably  the  case  in  England  with  the  silver  coinage  before 
1800.     Silver  was  underrated  and  gold  had  become  the  standard; 


THE  STANDARD  QUESTION:  BIMETALLISM  in 

but  a  silver  coinage  of  a  very  bad  description  remained,  which  was 
used  exactly  as  the  silver-token  coinage  is  now  used. 

In  these  three  ways,  then,  coins  of  an  underrated  metal  in  a 
bimetallic  system,  and  coins  of  dilTerent  metals  in  an  inconvertible 
paper  countr}',  may  remain  physically  in  a  country  when  they  go 
out  of  use  as  standard  money,  without  being  actually  exported. 

When  export  does,  in  fact,  take  place,  it  arises  from  the  formation 
of  a  surplus  of  the  underrated  metal,  through  changes  of  circumstances 
as  regards  the  use  of  it  in  the  various  ways  specified. 

68.    COMPENSATORY  ACTION  OF  A  BIMETALLIC  STANDARD' 
By  WILLIAM  A.  SCOTT 

As  a  remedy  for  the  variations  in  the  market  rate  of  gold  and 
silver  and  attendant  evils,  bimetallists  rely  upon  what  has  been  called 
the  compensatory  action  of  the  double  standard.  This  may  be 
described  as  follows :  Suppose  that  the  ratio  established  between  the 
weights  of  gold  and  silver  coins  of  the  same  nominal  value  be  i6  to  i, 
and  that  a  change  in  the  market  for  bullion,  due  to  a  fall  in  the  value 
of  silver,  temporarily  makes  the  actual  ratio  i8  to  i.  It  will  now  be 
profitable  for  all  debtors  to  pay  in  silver  and  sell  gold  coins  as  bullion, 
since  for  every  ounce  of  gold  thus  sold  they  can  purchase  eighteen 
oimces  of  silver,  and,  by  carrying  it  to  the  mint  for  coinage,  pay  as 
large  a  debt  or  make  as  large  a  purchase  with  sixteen  ounces  as  they 
could  have  done  with  the  original  ounce  of  gold,  and  thus  make  a 
clear  profit  of  two  ounces  of  silver  on  every  such  transaction.  It  is 
not,  of  course,  to  be  supposed  that  every  person  would  know  enough 
to  take  advantage  of  such  a  situation,  or  would  take  the  trouble  of 
going  into  the  exchange  business  if  he  did  see  this  chance  for  profit; 
but  we  may  be  sure  that  the  people  already  in  the  business,  namely, 
the  bankers,  would  melt  down  or  ex-port  gold  coins  on  as  large  a 
scale  as  possible,  and  buy  silver  bullion  and  take  it  to  the  mint  for 
coinage.  One  result  of  this  procedure  would  be  a  large  increase  in 
the  coinage  of  silver  and  a  decrease,  perhaps  a  complete  stoppage,  of  the 
coinage  of  gold;  and  a  second  would  be,  so  say  the  bimetallists,  a  large 
increase  in  the  use  of  silver  for  monetary  purposes,  and  a  decrease  in 
the  use  of  gold.  A  change  in  the  relative  demand  for  the  two  metals 
would  thus  be  produced  which  would  tend  to  counteract  the  effects 
of  the  fall  in  the  value  of  silver  and  bring  the  ratio  between  the  two 

■  Adapted  from  Money  and  Banking,  pp.  300-303.     (Henry  Holt  &  Co.,  1910.) 


112  PRINCIPLES  OF  MONEY  AND  BANKING 

metals  on  the  bullion  market  back  to  that  established  by  law  for  the 
guidance  of  the  mint;  that  is,  the  increase  in  the  use  of  the  one 
metal  and  the  decrease  in  the  use  of  the  other  for  monetary  purposes 
would  raise  the  value  of  the  first  and  lower  that  of  the  second,  thus 
tending  to  bring  the  two  ratios  together.  A  further  argument  is 
needed  to  show  that  this  compensatory  action  would  be  sufficient 
to  make  the  bullion  ratio  actually  identical  with  the  legal,  and  this 
the  bimetallists  find  in  the  enormous  quantities  of  gold  and  silver 
used  for  monetary  purposes  and  in  the  relatively  small  capacity  of  the 
bullion  markets  to  absorb  increased  quantities  of  the  precious  metals 
without  experiencing  great  fluctuations  in  their  value. 

On  account  of  this  compensatory  action  of  the  double  standard, 
the  bimetallists  claim  that,  if  a  sufiicient  number  of  nations  could 
be  induced  to  adopt  the  bimetallic  system  of  coinage,  no  variation  in 
the  relative  value  of  the  precious  metals  could  take  place.  The 
general  level  of  prices  might  rise  and  fall  on  account  of  changes  in  the 
relative  value  of  gold  and  silver  and  other  commodities,  but  so  far 
as  their  relations  to  each  other  are  concerned  no  change  could  take 
place,  since  any  tendency  in  that  direction  would  be  immediately 
counteracted  by  a  modification  in  the  relation  between  the  demand 
and  the  supply  of  the  two  metals  brought  about  by  the  process  just 
described.  The  above  supposition  of  a  difference  between  the  legal 
and  market  ratios,  therefore,  must  be  regarded  as  a  hypothetical 
case,  useful  as  an  illustration  of  the  way  the  law  operates,  but  not 
useful  in  correspondence  with  facts  as  they  would  present  themselves 
under  the  bimetallic  system. 

The  relation  between  the  compensatory  law  and  the  alleged 
evils  of  monometallism  are  obvious.  The  bimetaUic  system  acts 
as  a  check  upon  fluctuations  in  the  value  of  both  metals,  but  cannot 
entirely  prevent  them.  As  soon  as  some  external  force,  such  as  a 
discovery  of  new  sources  of  supply  or  improvements  in  the  methods 
of  production,  begins  to  affect  the  value  of  one  of  the  metals  the 
action  of  the  compensatory  law  commences  and  modifies  the  demand 
for  it  in  such  a  way  as  to  counteract  the  rise  in  value,  if  that  is  the 
tendency  of  the  movement,  or  the  fall,  if  the  new  force  is  working 
in  that  direction;  but  the  maximum  result  of  this  counteraction  will 
be  to  prevent  a  change  in  the  ratio  of  the  two  metals.  It  cannot  go 
so  far  as  to  make  the  ratio  between  the  demand  and  the  supply  of 
both  metals  precisely  the  same  as  before.  For  example,  suppose  that 
the  production  of  silver  for  monetary  purposes  were  to  increase  25  per 


THE  STANDARD  QUESTION:   BIMETALLISM  113 

cent  under  the  bimetallic  system;  all  that  is  claimed  is  that  the 
demand  for  silver  for  monetary  purposes  would  be  increased  and  that 
for  gold  would  be  decreased  to  whatever  degree  might  be  necessary 
to  prevent  a  change  in  that  ratio,  but  that  would  not  mean  a  25  per 
cent  change  on  both  sides,  which  would  be  required  to  exactly  restore 
the  former  ratio  of  demand  to  supply.  Very  likely  a  i2|  per  cent 
increase  in  the  monetary  demand  for  silver  and  a  corresponding 
decrease  in  that  for  gold  would  be  sufficient,  in  which  case  both  metals 
would  have  experienced  a  considerable  fall  in  value,  but  not  so  great 
a  fall  as  silver  would  have  experienced  had  no  counteracting  agency 
been  in  operation.  If  no  change  had  taken  place  meanwhile  in  the 
value  of  commodities  prices  would  certainly  rise,  but  not  in  the  same 
degree  as  in  a  silver  monometallic  country  under  the  same  circum- 
stances, and,  if  both  metals  had  previously  been  appreciating  in  their 
relation  to  other  commodities,  this  tendency  would  have  been  checked 
and  perhaps  entirely  counteracted.  As  compared  with  conditions 
in  a  gold  monometallic  country  SHflering  from  an  appreciating  stand- 
ard, the  situation  would  be  much  better,  because  the  decrease  in  the 
demand  for  gold  for  monetary  purposes  might  just  counterbalance 
the  increasing  demand  or  the  decreasing  supply  which  was  the  cause 
of  its  appreciation  in  the  gold-standard  country. 


B.     History  of  Bimetallism 

69.    SUMMARY  STATEMENT  OF  MODERN  MONETARY 
HISTORY' 

By  W.  a.  SHAW 

Modem  monetary  history  may  be  divided  into  three  great  periods: 
1252-1492;  1493-1660;  1661  to  the  present  time.  The  first  period 
marked  the  rcintroduction  of  gold  into  the  coinage  of  Europe.  The 
second  period  witnessed  the  discovery  of  America  and  the  enormous 
flow  of  precious  metals  to  Europe.  The  third  period  was  one  of 
remarkable  steadiness  of  silver  production  with  some  changes  in 
gold  production  until  the  middle  of  the  nineteenth  century,  and  then 
one  of  remarkable  increase  in  tlie  volume  of  both  gold  and  silver. 

The  history  of  the  first  period  shows  with  unmistakable  clearness 
two  simple  facts:    First,  it  was  a  period  in  which  the  commercial 

'  Adapted  from  History  of  Currency.  Summarized  from  various  chapters. 
(G.  P.  Putnam's  Sons,  1899.) 


114  PRINCIPLES  OF  MONEY  AND  BANKING 

expanse  outstripped  the  reinforcing  supply  of  the  precious  metals, 
with  a  consequent  rise  in  the  value  of  the  precious  metals.  Second, 
the  evil  effects  of  such  a  scarcity  of  the  precious  metals  were  enor- 
mously increased  by  shortsighted,  crafty  manipulations  of  the 
currency  by  the  European  rulers,  and  by  the  rough,  unscientific 
system  of  the  prevailing  coinage  and  exchange  rates,  and  by  the 
inability  of  the  age  to  understand,  or  even  to  perceive,  the  hidden 
working  of  Gresham's  law. 

The  second  period  was  one  of  widely  fluctuating  ratios  between 
gold  and  silver  values,  and  the  accompaniment  of  feverish  instability 
and  flux.     The  ratio  averaged  by  periods  is  as  follows: 

1545-60 II .30  to  I        1601-20 12. 25  to  I 

1561-80 II-  50  "  "        1621-40 14.00  "  " 

1581-1600 11,80  "  "        1641-60 14.50  "  " 

These  fluctuations  of  the  ratio  varied  in  different  countries  and 
there  was  endless  movement  of  specie  from  one  country  to  another 
under  the  operation  of  Gresham's  law.  The  governments  of  the 
time  constantly  endeavored  to  control  this  flow  by  changing  the 
coinage  ratios,  altering  the  denomination  of  the  coinage,  and  diminish- 
ing the  content  and  reducing  the  standard  of  fineness.  During  the 
latter  part  of  the  period  the  mercantile  theory  was  primarily  responsi- 
ble for  the  legislative  attempts  to  control  and  increase  the  quantity 
of  money  in  the  various  countries. 

The  third  period  first  witnessed  the  practical  decline  of  the  mer- 
cantile theory  and  its  elaborate  legislation  for  the  control  of  the 
currency  supply.  By  an  act  of  1663  England  took  the  lead  and  the 
statutes  forbidding  the  exportation  of  bullion  were  removed  at  one 
blow  of  astounding  boldness.  The  fall  of  mercantilism  and  the 
perception  of  a  right  theory  of  international  balances  opened  the  way 
to  highly  important  results.  It  separated  the  currency  phenomena 
from  the  larger  problem  of  industrial  and  national  power  and  thus 
prepared  the  ground  for  a  scientific  conception  and  treatment  of 
them.  This  treatment  resulted  in  the  evolution  of  a  theory  and 
practice  of  bimetallism  in  one  direction,  and  of  the  theory  and  prac- 
tice of  monometallism  in  another  direction.  Modern  currency 
history  has  centered  around  the  antagonism  of  these  two  systems. 
Second,  this  period  has  witnessed  an  enormous  expansion  in  the  pro- 
duction of  the  precious  metals,  the  result  of  which  has  been  the  adop- 
tion almost  universally  of  gold  monometallism. 


THE  STANDARD  QUESTION:  BIMETALLISM  115 

70.    ENGL.^ND'S  EXPERIENCE  WITH  BIMETALLISM' 
By  SOPHONISBA  P.  BRECKINRIDGE 

From  the  time  of  Henry  VIII  the  value  of  gold  bullion  changed 
rapidly  in  terms  of  silver,  and  although  the  mint  ratios  were  frequently 
altered  all  efforts  to  retain  both  metals  in  circulation  failed.  In  1604 
the  mint  ratio  of  gold  to  silver  was  raised  10  per  cent — an  increase 
not  great  enough,  however,  to  bring  gold  from  countries  where  it  was 
more  highly  rated.  In  1611-12  an  alteration  in  the  same  direction, 
going  too  far,  drove  the  silver  out  as  the  gold  came  in,  causing  so 
great  a  scarcity  of  silver  that  the  old  laws  against  exportation  were 
revived  and  re-enacted.  No  remedy  was  found  until,  by  the  simple 
passage  of  time,  in  the  development  then  in  progress,  the  market 
value  of  gold  in  terms  of  silver  overtook  and  soon  passed  the  mint 
value  of  that  metal. 

Again  in  1662-63  there  was  an  alteration  in  the  gold  coins,  caused 
by  the  market  value  of  the  gold  in  terms  of  silver  creeping  past  the 
mint  value.  Finally,  the  whole  question  of  coinage  was  taken  up 
by  William  in  1695,  who  threw  upon  Parliament  the  responsibility 
of  finding  a  remedy.  It  was  proposed  that  the  same  remedy  be 
applied  that  had  been  employed  by  Edward  I  four  centuries  before; 
that  is,  that  the  legal  be  adapted  to  the  actual  value  of  the  coins; 
but  this  proposition  was  rejected,  and  the  great  recoinage  of  the  silver 
of  the  realm  was  carried  out  in  the  years  1695-98,  leaving  the  silver 
coins  unchanged. 

The  provision  for  the  recoinage  of  silver  caused  the  gold  coins  to 
fall  in  value  relatively  to  silver,  and  it  was  resolved  by  the  House  of 
Commons  that  they  should  not  pass  at  a  value  higher  than  285., 
which  value  was  soon  reduced  to  265.  On  the  basis  of  this  resolution 
an  act  was  passed  imposing  a  penalty  on  anyone  who  should  receive 
or  pay  the  twenty-shilling  piece  at  a  higher  rate  than  265.  This,  by 
another  act  of  the  same  session,  was  reduced  to  225.  In  1698  their 
price  had  fallen  to  21s.  6d.,  at  which  rate  they  were  taken  by  the 
officers  of  the  revenue.  This  rating  of  the  gold  coin  was  not,  however, 
such  as  to  prevent  the  exportation  of  silver,  and  in  17 17  the  legal 
value  of  the  guinea  was  reduced  to  21s. 

Even  this  estimate  of  gold  in  terms  of  silver  was  still  too  high, 
however,  to  bring  siKer  into  circulation,  and  during  the  century  it 

■  Adapted  from  Legal  Tender,  pp.  43-4f>-  (I'hc  University  of  Chicago  Press, 
1903) 


Il6  PRINCIPLES  OF  MONEY  AND  BANKING 

remained  so  scarce  that  gold  became  the  customary  medium  of 
exchange  and  the  true  standard  of  payments.  In  1774  this  state 
of  facts  was  recognized  by  legislation,  and  the  legal-tender  power  of 
silver  coin  was  limited  to  £25  in  any  one  payment,  an  excess  of  that 
amount  being  paid  by  weight  at  the  rate  of  35.  2d.  to  the  ounce.  This 
act,  the  duration  of  which  was  for  two  years,  was  in  1776  renewed  for 
another  period  of  the  same  length.  In  1778  it  was  extended  to  1783, 
when  it  was  allowed  to  expire.  In  1798  it  was  again  revived,  and 
continued  until  1816,  when  the  silver  coins  were  reduced  in  weight 
and  given  the  position  of  representative  coins  having  a  limited  legal- 
tender  power.  By  this  act  gold  was  declared  to  be  the  standard  coin 
of  the  realm;  the  silver  pound  was  to  be  divided  into  shillings  weigh- 
in^g  ^lix  grains,  and  it  was  decreed  that  silver  coins  should  be  con- 
sidered representative  coins,  legal  tender  to  the  value  of  two  guineas 
only. 


THE  STANDARD  QUESTION:  BIMETALLISM 


117 


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Il8  PRINCIPLES  OF  MONEY  AND  BANKING 

72.    THE  ADOPTION  OF  THE  GOLD  STANDARD  BY  LEADING 

NATIONS 

National  bimetallism  has  been  tested  by  the  experience  of  practi- 
cally every  modern  commercial  nation.  England  was  the  first  country 
to  give  up  the  double  standard,  resorting  to  a  monometallic  system  in 
1816.  For  an  indefmite  period  England  had  suffered  from  the  evils 
of  a  fluctuating  standard.  During  the  eighteenth  century  the  only 
silver  coins  remaining  in  circulation  were  those  which  had  been  much 
reduced  in  weight  by  fraudulent  clipping;  all  the  rest  had  been 
driven  out  by  the  cheaper  gold  coins. 

The  kingdom  of  Portugal  next  adopted  the  single  gold  standard 
in  1854.  In  the  year  1857  the  states  composing  the  German  Zollverein 
and  the  empire  of  Austria  entered  into  a  monetary  treaty  by  which 
they  adopted  the  single  silver  standard.  The  treaty  provided,  how- 
ever, that  any  of  the  contracting  states  might  mint  gold  coins  to  cir- 
culate at  their  market  value.  It  was  expressly  stipulated  that  these 
should  not  be  legal  tender,  though  they  might  be  received  at  the 
public  treasuries  at  rates  to  be  fixed  by  the  respective  governments 
at  least  once  every  six  months. 

Shortly  after  the  establishment  of  the  German  Empire  in  187 1 
the  single  gold  standard  was  adopted  in  Germany.  Silver  was 
made  a  subsidiary  currency,  and  in  1873  was  completely  demonetized. 

The  states  composing  the  Latin  Monetary  Union,  which  had  been 
formed  in  1865  in  an  endeavor  to  secure  a  uniform  international  double 
standard,  one  by  one  practically  went  over  to  the  single  gold  standard 
in  the  decade  of  the  seventies.  In  1873  France  limited  the  coinage 
of  silver  on  individual  account.  In  the  same  year  Belgium  first 
limited  and  then  entirely  suspended  the  coinage  of  silver.  Early  in 
1874  the  Union  itself  limited  the  amount  of  silver  that  might  be 
coined  each  year  by  each  of  the  countries  of  the  Union ;  within  three 
years  each  state  had  entirely  ceased  to  coin  silver  and  the  demone- 
tization was  practically  complete. 

In  1873  the  United  States  in  revising  her  coinage  system  omitted 
the  standard  silver  dollar  from  the  list  of  coins  that  might  be  struck 
at  the  mint,  and  thus  became  a  single  gold  standard  country.  This 
law  was  modified,  however,  and  for  many  years  there  was  a  limited 
coinage  of  silver. 

In  1873  the  Scandinavian  Monetary  Union  was  formed  by 
Norway,  Sweden,  and  Denmark,  and  a  single  gold  standard  was 
adopted.     In  1874  silver  was  entirely  demonetized. 


THE  STANDARD  QUESTION:  BIMETALLISM  iig 

In  1873  Holland  limited  ihe  coinage  of  silver  and  two  years  later 
adopted  a  single  gold  standard.  Si>ain  began  the  restriction  of  silver 
money  in  1876  and  completed  the  process  in  1878.  In  1876  Russia 
suspended  the  coinage  of  silver  for  individuals,  except  as  required  for 
trade  with  China.  Finland  adopted  the  single  gold  standard  in  1877, 
and  in  1878  Austria-Hungary  abolished  the  free  coinage  of  silver. 

In  1893  after  long  agitation  the  mints  of  India  were  closed  to  the 
free  coinage  of  silver.  In  1898  Japan  definitely  adopted  the  single 
gold  standard.  The  following  year  Russia  completed  the  change 
begun  in  1876  and  adopted  the  gold  standard.  In  1900  the  United 
States  definitely  settled  the  standard  controversy  that  had  raged  for 
over  twenty  years  by  the  enactment  of  a  gold  standard  law.  Prac- 
tically all  of  the  small  states  of  the  world  have  also  in  recent  years 
adopted  either  the  single  gold  standard  basis  or  the  gold  exchange 
standard,  a  variation  on  the  principle  of  the  single  gold  standard. 


C.     Bimetallism  in  the  United  States  until  1873 

73.    THE  ADOPTION  OF  A  MONETARY  SYSTEM  BY  THE 
UNITED  STATES' 

By  a.  BARTON  HEPBURN 

Alexander  Hamilton  was  the  first  Secretary  of  the  Treasury,  and 
soon  after  organizing  the  department  set  himself  the  task  of  establish- 
ing a  comprehensive  federal  monetary  system.  He  first  took  up  the 
question  of  the  public  debt,  then  the  establishment  of  a  banking 
system,  and  on  January  21,  1791,  presented  to  Congress  his  justly 
celebrated  report  on  the  establishment  of  a  mint  and  a  coinage  system 
for  the  United  States. 

He  examined  this  comprehensive  subject  in  all  its  aspects  and 
ramifications,  presenting  the  facts  and  arguments  bearing  upon  both 
sides  of  each  question,  and  after  careful  analysis  reached  the  following 
conclusions: 

I.  That  the  dollar,  because  it  had  been  in  actual  use  as  the  measure 
of  values  in  practically  all  of  the  states,  was  the  most  suitable  unit 
for  the  proposed  system;  that  it  was  of  the  utmost  importance  to 
define  as  exactly  as  possible  just  what  the  dollar  was,  in  order  that 
neither  debtors  nor  creditors  might  be  injuriously  affected.     The 

■  Adapted  from  Contest  for  Sound  Money,  pp.  20-22.  (The  Macmillan  Co., 
1903.) 


I20  PRINCIPLES  OF  MONEY  AND  BANKING 

dollars  in  existence  varied  considerably,  Spain  having  degraded  or 
changed  the  standard  at  different  times.  He  therefore  recommended 
a  dollar  containing  371.25  grains  of  pure  silver,  as  best  expressing 
the  actual  average  value  of  the  coin  in  use. 

2.  That  the  decimal  system  was  of  demonstrated  superiority 
over  the  duodecimal  of  Great  Britain. 

3.  That  inasmuch  as  the  undervaluation  of  either  metal  would 
cause  its  exportation,  thus  shifting  the  standard  to  the  other,  which 
might  result  injuriously,  and  since  it  was  very  desirable  to  have  coins 
of  both  metals  in  actual  use,  the  ratio  should  conform  as  nearly  as 
possible  to  the  commercial  ratio,  rather  than  follow  any  specific 
European  precedent.     He  therefore  recommended  the  ratio  of  15  to  i. 

4.  That  the  silver  dollar  was  the  equivalent  of  24.75  grains  of 
gold,  and  therefore  a  gold  dollar  containing  that  quantity  of  metal  be 
also  provided  for,  in  order  that  there  might  be  a  unit  coin  in  each  metal. 

5.  That  the  fineness  of  the  coins  should  be  eleven-twelfths  or 
9i6f,  corresponding  with  the  British  standard  of  fineness  for  gold; 
the  alloys  being  for  gold  coins,  silver  and  copper;  for  silver  coins, 
copper  only. 

6.  That  no  mint  charge  should  be  imposed  upon  the  bullion 
brought  for  coinage,  the  cost  thereof  being  properly  a  general  charge 
rather  than  one  to  be  imposed  upon  specific  individuals,  and  to  impose 
a  charge  might  influence  prices  in  international  relations,  being  in 
effect  a  reduction  of  the  standard  of  the  coin,  as  compared  with  the 
bullion. 

7.  That  foreign  coins  should  be  permitted  to  circulate  for  one 
year,  that  thereafter  certain  foreign  pieces  might  be  tolerated  for 
another  year  or  two;  anticipating  that  the  mint  would  be  prepared 
to  provide  all  the  coin  needed,  he  concluded  that  after  three  years 
the  use  of  foreign  coins  should  be  prohibited. 

On  April  2,  1792,  these  recommendations,  with  two  exceptions, 
were  enacted  into  law.  Congress  refused  to  provide  for  a  gold  dollar, 
and  altered  the  fineness  of  the  silver  coins  by  substituting  a  fraction 
resulting  in  .89243  fine.  In  all  other  particulars  the  law  was  prac- 
tically an  enactment  of  Hamilton's  own  language  into  statute. 

74.    EFFECTS  OF  THE  CHANGING  RATIO— 1 792-1834 

The  operation  of  Gresham's  law  must  be  comparatively  slow  in  a 
new  and  sparsely  settled  country  possessing  but  a  scanty  supply  of 
the  precious  metals.     It  appears,  however,  tliat  by  1810  at  the  latest 


THE  STANDARD  QUESTION:   BIMETALLISM  121 

golf'  coin  was  being  driven  out  of  circulation;  while  by  18 18  there  was 
scarcely  any  gold  to  be  seen.  During  the  war  from  1812  to  1815  and 
until  the  resumption  of  specie  pa}-ments  in  1818  the  process  of  gold 
expulsion  was  greatly  accelerated  by  the  heavy  issues  of  depreciated 
bank  currency.  In  1818  it  was  officially  recognized  that  Hamilton's 
ratio  of  15  to  i  differed  so  widely  from  the  current  market  ratio 
between  gold  and  silver  that  if  a  double  standard  were  in  fact  to  be 
maintained  a  new  legal  ratio  must  be  established.  In  November  of 
that  year  a  committee  was  appointed  by  the  House,  with  Lowndes 
as  chairman,  for  the  purpose  of  investigating  the  currency. 

The  Lowndes  Report  on  the  history  of  the  currency  and  the 
state  of  the  coinage,  made  early  in  18 19,  was  a  comprehensive  and 
able  study.  The  report  recommended  a  new  ratio  of  15.6  to  i. 
The  death  of  Lowndes  in  1822  and  the  consequent  loss  of  his  advo- 
cacy of  a  change,  coupled  with  the  conservatism  of  Congress,  resulted 
in  a  postponement  of  action  for  nearly  twenty  years.  Indeed,  it  was 
not  until  a  combination  of  special  interests  having  something  to  gain 
by  a  change  in  the  ratio  came  to  the  support  of  the  advocates  of  a 
new  ratio  that  Congress  could  be  induced  to  pass  a  law  on  the 
subject. 

During  this  period  an  interesting  example  of  the  operation  of 
Gresham's  law  was  observed.  There  were  many  Spanish  silver 
dollars  in  circulation  in  the  United  States,  which  were  full  legal 
tender.  To  quote  Professor  Scott,  "Since  they  contained  more  silver 
than  the  corresponding  coins  of  the  United  States,  they  were  hoarded 
by  bankers  and  money-changers  or  sent  to  the  mint  for  recoinage, 
and,  since  both  coins  passed  at  their  face  value  among  the  people 
generally,  a  profitable  trade  was  carried  on  by  sending  our  silver 
dollars  to  the  West  Indies  and  transporting  hitlier  the  heavier  Spanish 
coins.  On  this  account  the  coinage  of  silver  dollars  was  suspended 
in  1805,  but  the  traffic  still  continued  to  be  carried  on  with  our 
smaller  coins.  The  result  was  that  only  worn  and  clipped  foreign 
silver  coins  were  in  actual  circulation,  and  there  was  a  great  dearth 
of  the  kind  of  money  needed  for  ordinary  transactions." 


k 


122  PRINCIPLES  OF  MONEY  AND  HANKING 

75-    COINAGE  BETWEEN  1792  AND  1835' 


Years 

Total  Gold 

Silver  Dollars 

Fractional  Silver 

1792-1795 

$       71,485.00 
942,805.00 

1,533,267.50 
1,717,475  00 
1,345.925   00 
1,820,585.00 
600,315.00 
1,302,777.50 
8,631,700.00 

$    204,791.00 

1,052,667.00 

182,059.00 

$      165,892.80 

17,103.95 

287,889.00 

3,099,217.25 

2,622,316.60 

3,348,494 -45 

5,844,178.95 

10,936,868.00 

15,371,605.00 

1796-1800 

1801-1805 

1806-1810 

1811-1815 

1816-1820 

1821-1825 

1826-1830 

1831-1835 

76.    THE  ACT  OF  1834 

It  was  not  until  1834  that  the  legal  ratio  of  silver  and  gold  was 
changed  in  an  endeavor  to  bring  it  into  accord  with  the  market 
ratio.  It  appears  that  private  interest  alone  was  strong  enough  to 
induce  a  Congress  to  act  in  the  matter.  As  Raguet  says:  "We 
should  possibly  have  for  many  years  remained  in  that  situation,  had 
it  not  been  for  a  fresh  occurrence  by  which  fancied  private  interest 
was  brought  to  bear  upon  Congress.  That  occurrence  was  the  dis- 
covery of  gold  in  North  Carolina  and  other  Southern  States 

This  gradually  increasing  production  of  gold  in  the  South  engendered 
precisely  the  same  spirit  as  the  increased  production  of  iron  had  done 
in  the  North.  The  owners  of  the  gold  mines  cried  out  for  legislative 
protection,  as  the  owners  of  the  iron  mines  had  previously  done,  and 
laws  were  soHcited  to  enable  the  former  to  get  more  for  their  gold,  or 
rather  for  the  rent  of  their  land,  than  they  could  otherwise  have 
obtained."  The  market  ratio  at  the  time  was  15.6  to  i.  These 
people  for  obvious  reasons  preferred  a  ratio  of  16  to  i. 

Politics  also  appears  to  have  played  its  part  in  the  passage  of 
the  measure.  Congressman  White,  who  had  earlier  presented  an 
extensive  report  urging  a  ratio  of  15.6  to  i,  now  championed  16  to  i, 
possibly  because  he  believed  in  a  single  standard  rather  than  in 
bimetallism  and  felt  that  gold  would  be  the  more  desirable  standard. 
The  hot  political  fight  over  the  question  of  rechartering  the  Second 
Bank  of  the  United  States  necessitated  a  counter-monetary  issue, 
and  the  antibank  men  seized  upon  gold  currency  as  an  effective  battle 
cry.     In  the  congressional  debates  there  is  ample  evidence  to  show 

'  Adapted  from  Hepburn,  Contest  for  Sound  Money,  p.  S3-  (The  Macmillan 
Co.,  1903.) 


THE  STANDARD  QUESTION:  BIMETALLISM 


123 


that  Congress  was  aware  that  so  great  a  change  would  inevitably 
drive  silver  out  of  circulation  and  give  us  in  fact  a  single  gold 
standard. 

77.    COINAGE  AND   EXPORTS  AND   IMPORTS   OF   PRECIOUS 
METAXS,  1836-60' 

COINAGE 


Years 

Total  Gold 

Silver  Dollars 

Fractional  Silver 

1836-1840 

$   10,146,100.00 

20,214,180.00 

69,001,515.00 

214,142,519.00 

130,264,446.00 

$       62,305 

567,218 

435,450 

107,650 

1,527,930 

$11,909,529.60 
10,841,782.00 
10,518,680.00 
22,864,243.00 
23,132,280.00 

184.I-184';     

1846— 1850    

i8i;i-i8';; 

I856-I860   

EXPORTS  AND  IMPORTS 


Years 

Exports 

Imports 

Gold 

Silver 

Gold 

Silver 

1836- 

I84I- 
1846- 
1851- 
1856- 

-1840 

-1845 

-1850 

-1855 

-i860 

$   13,578,435 

10,724,258 

20,695,177 

184,017,429 

279,790,526 

$17,423,953 
19,705,113 

13,886,373 
13,145,180 
18,158,678 

$25,588,296 

21,525,334 
31,739,452 
13,960,026 
23,845,192 

$30,554,104 
19,771,321 
13,799,885 
11,799.057 
28,083,659 

78.    THE  ACT  OF  1853  AND  SUBSIDIARY  SILVER 

Until  1853  the  weight  of  two  half-dollars,  four  quarters,  etc., 
was  exactly  equal  to  one  dollar.  In  consequence,  when  gold  came 
into  circulation  after  1834,  not  only  the  silver  dollar,  but  subsidiary 
silver  coins  as  well,  were  driven  from  circulation.  Especially  after 
the  great  fall  in  the  value  of  gold  following  the  discovery  of  the 
California  gold  mines  in  1849  the  country  was  greatly  embarrassed 
for  want  of  small  change.  The  act  of  1853,  while  not  attempting 
to  bring  the  silver  dollar  back  into  circulation  by  changing  the  ratio, 
essayed  to  remedy  the  situation  so  far  as  subsidiary  silver  coins 
were  concerned.  The  act  reduced  the  number  of  grains  of  pure 
silver  in  fractional  coins  from  371.25  to  345.6,  or  6.91  per  cent. 
Since  the  silver  dollar  was  worth  about  i  .04  in  gold,  there  no  longer 
remained  any  profit  in  molting  fractional  silver  pieces,  or  in  with- 
drawing them  from  circulation. 

•  From  Hepburn,  Contest  for  Soutid  Money,  p.  50.    (The  Macmillan  Co.,  1903.) 


124  PRINCIPLES  OF  MONEY  AND  BANKING 

This  reduction  in  weight  of  the  fractional  silver  pieces,  however, 
necessitated  the  adoption  of  a  numl^er  of  other  provisions  in  order 
to  prevent  these  subsidiary  silver  pieces  from  driving  gold  out  of 
circulation  and  otherwise  disarranging  the  currency.  The  principles 
adopted  in  tiiis  connection  have  come  to  be  known  as  the  laws  of 
token  money. 

79.    LAWS  OF  TOKEN  OR  SUBSIDIARY  METALLIC  MONEY' 

As  now  understood  and  practiced,  a  correct  system  of  token  money 
would  conform  to  the  following  principles: 

1.  Such  a  reduction  in  weight  and  value  below  the  standard  unit 
as  would  prevent  exportation  and  yet  not  place  a  premium  on  counter- 
feiting. 

2.  Coinage  only  on  government  account;  that  is,  no  free  coinage. 

3.  Limited  legal-tender  power. 

4.  Protection  against  excessive  quantity  by  direct  redemption 
on  presentation  in  proper  amounts,  which  also  maintains  its  face  value. 

As  a  matter  of  course,  countries  have  not  always  had  clear  con- 
ceptions regarding  this  kind  of  money,  so  that  the  principles  just 
enumerated  have  come  forth  only  by  a  process  of  evolution  out  of 
experience.  In  the  United  States  the  first  rule  was  not  observed  until 
i853)  when  our  subsidiary  coins  were  reduced  to  345.6  grains  of  pure 
silver  for  two  halves,  four  c^uarters,  or  ten  dimes.  This  reduction 
in  weight  by  about  7  per  cent  kept  the  bullion  value  of  the  token 
coins  below  that  of  both  the  gold  and  silver  dollars  and  they  circu- 
lated freely.     They  were  worth  more  as  small  change  than  as  bullion. 

As  regards  the  second  law,  it  is  evident  that  if  coins  are  issued  at 
a  value  above  the  cost  of  the  bullion  in  them,  the  issuer  gains  this 
profit,  or  seignorage.  Hence  the  coinage  should  not  be  allowed  to  a 
private  person  but  should  be  restricted  to  the  state,  to  which  the 
profits  should  accrue.  This  is  all  the  more  necessary  if  the  duty  is 
laid  upon  the  state  to  redeem  the  coins  upon  demand. 

The  reason  for  the  third  law  is  obvious.  The  standard  coins  being 
ordinarily  issued  only  in  multiples  of  a  unit,  there  must  frequently 
be  fractional  sums  represented  in  a  debt;  and  the  same  considerations 
which  demand  that  the  kind  of  money  to  satisfy  the  major  part  of 
the  debt  shall  be  clearly  defined  in  law  also  requires  that  some 
met,hod  of  legally  satisfying  the  fractional  portions  should  be  indicated. 

'  Adapted  from  Report  of  the  Monetary  Commission  of  the  Indianapolis  Con- 
vention (1898),  pp.  113-16. 


THE  STANDARD  QUESTION:   BIMET.VLLIS-M  125 

Consequently  the  token  coins  are  made  legal  tender  for  this  purpose. 
On  the  other  hand,  a  payment  of  a  debt  in  large  amounts  of  over- 
valued coins,  these  being  of  small  denominations  and  hence  heav}^  and 
cumbrous  in  large  sums,  would  be  a  serious  inconvenience.  If,  there- 
fore, the  legal-tender  quality  conferred  on  token  coins  were  unlimited, 
the  power  might  be  abused  by  a  captious  debtor,  who  might  insist 
on  making  some  large  payments  in  these  coins  for  the  purpose  of 
annoying  the  creditor.  Minor  and  subsidiary  coins  have  usually 
been  made  a  legal  tender,  therefore,  only  to  limited  amounts.  In 
1853  subsidiary  silver  coins,  which  hitherto  had  had  full  legal-tender 
power,  were  made  pa}-able  for  debts  only  in  sums  not  exceeding  five 
dollars.     In  1879  this  limit  was  raised  to  ten  dollars. 

A  person  obliged  to  make  remittances  abroad  might  have  been 
paid  here  in  overvalued  token  coins,  which,  not  being  worth  in  foreign 
countries  more  than  the  bullion  they  contained,  would  be  short 
payment  arid  could  not  be  used  abroad.  Unless  he  could  exchange 
token  coins  for  full-valued  standard  coins  which  would  be  equally 
good  abroad  as  well  as  at  home,  he  would  find  business  decidedly 
venturesome.  Consequently  the  necessity  for  the  fourth  law  becomes 
at  once  apparent.  Indeed,  redemption  is  a  fundamental  necessity 
for  a  system  of  token  coins.  Inasmuch  as  no  government  can  ever 
foretell  the  amount  which  the  community  will  absorb,  it  must  be 
ready  freely  to  provide  token  coins  in  exchange  for  standard  coins 
whenever  needed;  and  to  prevent  an  excess  from  clogging  the  tills 
of  merchants  it  must  be  equally  ready  to  pay  out  standard  coins  in 
exchange  for  token  coins  whenever  the  latter  are  sent  in  to  the 
Treasury.  Thus  free  exchange  of  token  coins  for  gold  and  of  gold 
for  token  coins  is  the  only  proper  method  by  which  an  excess  in 
quantity  is  automatically  prevented.  If  wanted,  they  are  obtain- 
able; if  redundant,  they  are  inevitably  withdrawn.  Without  a 
method  of  redemption,  direct  or  indirect,  token  or  debased  coins  would 
certainly  go  to  a  discount  if  issued  to  excess,  because,  not  being 
received  equally  with  standard  coins,  a  discrimination  against  them 
would  manifest  itself.  Not  having  in  themselves  a  value  equal  to 
their  face  value,  they  must  borrow  the  deficiency  only  from  the  process 
by  whicli  they  can  be  exchanged  at  par  with  full-valued  coins. 

In  addition  to  the  removal  of  excessive  issues  from  the  cuculation, 
redemption  of  token  coins  performs  an  important  function  in  the 
distribution  and  rcdistril)ution  of  such  coins  as  arc  needed.  Witliout 
redemi)tion,  nickels,  for  example,  would  accumulate  in  large  amounts 


126  PRINCIPLES  OF  MONEY  AND  BANKING 

on  the  hands  of  street-car  companies;  for  it  would  be  inconvenient  or 
impossible  for  those  companies  to  fmd  people  who  might  want  small 
change,  and  it  would  be  difficult  for  them  to  get  rid  of  large  accumula- 
tions at  full  value.  But  the  system  of  redemption  offers  the  means 
whereby  those  who  have  too  much  can  dispose  of  their  surplus  and 
those  who  have  not  enough  can  get  more.  The  Treasury  thus  acts  as 
a  distributor  of  the  supply  of  token  coins. 

Lastly,  the  community  will  need  only  a  limited  amount  of  token 
coins  for  small  change.  What  this  sum  will  be  can  be  determined 
only  by  experience.  No  one  can  foretell  how  many  dimes  or  quarters 
will  be  needed  in  the  daily  transactions  in  which  money  is  necessarily 
used.  There  must,  therefore,  be  freedom  in  issuing  all  that  is  wanted. 
Safety  is  to  be  found  in  a  prompt  redemption  of  those  which  the  public 
do  not  need.  In  small  denominations  a  very  large  number  of  pieces 
may  be  required,  but  the  total  value  may  be  inconsiderable;  for  larger 
denominations  of  no  greater  number  of  pieces  the  total  sum  may  be 
quite  important.  The  inconvenience  of  not  having  money  for  large 
and  small  change  is  so  great  that  if  the  government  did  not  provide 
it  in  a  form  that  will  circulate  (as  before  1853  and  again  in  July,  1862) 
some  substitutes  are  necessarily  provided  by  merchants.  The  demand 
for  token  coins  is,  therefore,  up  to  a  certain  limit,  strong  and  steady, 
and  if  the  issues  are  within  this  limit  there  will  be  no  net  redemptions. 
The  coins  presented  by  one  individual  or  class  will  be  withdrawn 
by  others  for  use  in  the  channels  where  they  are  wanted. 

80.    THE  ACT  OF  1853  AND  THE  STANDARD  QUESTION' 
By  AUGUST  RODEN 

No  provision  was  made  in  the  act  of  1853  to  secure  the  circulation 
of  a  silver  dollar.  There  was  no  need  of  one.  In  1849,  when  it  had 
so  rapidly  disappeared,  its  place  had  been  supplied  by  the  coinage  of  a 
gold  dollar,  and  by  1853  over  10,000,000  had  been  coined,  which, 
together  with  the  great  number  of  $5  and  $2 .  50  gold  pieces  previously 
in  circulation,  provided  a  plentiful  currency  for  transactions  in  which 
coins  of  this  size  were  needed,  while  the  use  of  bank  notes  of  Si  and 
$2  was  common.  The  371.  25  grains  of  pure  silver  in  the  standard 
silver  dollar,  being  worth  more  as  bullion  than  as  money,  it  was  appar- 
ent that  this  law  would  take  away  the  full  legal-tender  quality  of  all 
silver  in  circulation,  leaving  gold  as  the  sole  standard. 

'Adapted  from  "The  Dollar  of  Our  Daddies,"  Sound  Currency,  IV  (1897), 
No.  13,  pp.  5-14. 


THE  STANDARD  QUESTION:  BIMETALLISM  127 

No  secret  was  made  of  this  fact,  for  Congressman  C.  S.  Dunham, 
of  Indiana,  who  secured  the  passage  of  the  bill  in  the  House,  relied 
mostly  on  this  feature  for  success.  In  speaking  against  an  objection- 
able feature  of  the  Hunter  Senate  bill  and  in  reference  to  the  silver 
coins  he  said:  "This,  however,  would  make  them  a  standard  in  all 
small  transactions;  we  would  thereby  still  continue  the  double  stand- 
ard of  gold  and  silver,  a  thing  which  the  committee  desire  to  obviate. 
They  desire  to  have  the  standard  currency  of  gold  only,  and  that  these 
silver  coins  shall  be  entirely  subservient  to  it  and  that  they  shall  be 
used  rather  as  tokens  than  as  standard  currency.  We  intend  to  do 
what  the  best  writers  on  political  economy  have  apj)roved;  what 
experience  has  demonstrated  to  be  best,  and  what  the  committee 
believe  to  be  necessary  and  proper — to  make  but  one  standard  and 
to  make  all  others  subservient  to  it.  We  mean  to  make  gold  the 
standard  coin,  and  to  make  these  silver  coins  applicable  and  con- 
venient, not  for  large  payments,  but  for  small  transactions."  There 
are  other  statements  of  a  similar  import.  This  bill  with  slight  altera- 
tions passed  ten  days  later,  and  the  nation  for  the  first  time  now 
possessed  what  Hamilton  so  earnestly  strove  to  secure  for  it,  and  what 
every  Secretary  of  the  Treasury  and  every  Congress  had  likewise 
striven  for,  viz,,  the  concurrent  use  of  both  gold  and  silver  as  money 
by  the  American  people.  The  results  of  that  act  were  hailed  with 
satisfaction  and  delight  by  Congress  and  the  country. 

It  was  here  that  the  battle  of  the  standards  in  America  was  fought 
and  decided.  The  law  of  1853  took  away  the  free  and  unlimited 
coining  privilege  of  all  silver  that  was  expected  to  serve  as  money, 
and  to  all  intent  and  effect  established  gold  as  the  only  full  money 
of  the  Nation.  It  is  true  that  the  provisions  for  the  continued  coinage 
of  the  old  silver  dollar  were  not  repealed,  nor  was  its  actual  coinage 
stopped,  or  intended  to  be  stopped.  When  coined,  however,  it  was 
never  from  1853  to  1873  worth  less  than  $1 .  03  and  sometimes  as  much 
as  $1 .  07,  and,  such  being  the  case,  there  was  no  danger  of  its  threaten- 
ing the  gold  standard  by  a  displacement  of  the  gold  currency.  It  was 
evident,  however,  that  should  silver  cheapen  in  value  so  that  the  silver 
in  the  silver  dollar  should  be  worth  less  than  the  gold  in  the  gold 
dollar  (which  was  not  considered  impossible,  though  improbable) 
the  gold  standard  would  be  overthrown.  Why,  then,  it  will  be  asked, 
if  it  was  so  clearly  the  intent  to  establish  the  gold  standard  in  1853, 
was  not  this  menace  of  a  possible  return  to  silver  removed  by  abolish- 
ing the  provisions  for  the  apparently  useless  silver  dollar  ? 


I2S  PRINCIPLES  OF  MONEY  AND  BANKING 

Though  this  may  appear  perplexir. ;  to  many  at  the  present  time, 
the  reason  was  very  well  understood  in  1853.  Though  silver  dollars 
ceased  to  circulate  as  early  as  1849,  they  did  not  cease  to  be  coined. 
In  fact,  nearly  6,000,000  of  them  were  coined  between  1853  and  1873. 
But  they  were  not  intended  to  be  used  as  money  by  those  who  brought 
the  bullion  to  the  mint  to  have  it  stamped  into  dollars.  They  were 
used  exclusively  for  commerce  with  China,  Japan,  and  India,  where 
it  was  more  advantageous  to  use  silver  than  gold  in  the  purchase  of 
commodities  for  importation  into  the  United  States,  because  of  the 
relatively  high  valuation  of  silver  in  those  countries.  The  nations  of 
the  East,  recognizing  the  stamp  of  the  United  States  as  a  guarantee  of 
the  weight  and  fineness  of  the  silver  in  the  dollar,  accepted  such  silver 
more  readily  than  they  would  in  the  form  of  uncoined  bullion.  To 
substantiate  this  assertion  that  this  anomaly  of  retaining  provisions 
for  the  free  and  unlimited  coinage  of  the  silver  doUar,  while  virtually 
establishing  the  gold  standard,  was  only  to  foster  and  protect  American 
commercial  interests  in  the  East,  I  will  quote  some  of  the  opinions 
and  recommendations  of  directors  of  the  Mint  and  secretaries  of  the 
Treasury  made  previous  to  1873,  at  which  time  the  privilege  of 
unlimited  coinage  of  silver  dollars  was  stopped. 

The  first  quotation  I  give  is  from  the  re]3ort  of  Mint  Director 
Pollock,  made  in  1861.  At  this  time  the  excuse  for  the  continued 
coinage  of  the  silver  dollar  for  commercial  purposes  was  beginning 
to  lose  force.  Director  Pollock  said  in  this  report:  "The  silver  dollar 
was  supposed  to  be  needed  for  our  China  and  East  India  trade,  but 
our  consular  advices  are  to  the  effect  that  our  silver  dollars  are  taken 
very  reluctantly  at  the  ports,  and  not  at  all  in  the  interior,  of  China. 
The  reasons  for  its  retention  having  ceased,  we  should  cease  to  coin 
the  silver  dollar  or  it  should  be  made  to  conform  in  weight  and  value 
to  our  lesser  silver  coins." 

From  the  Report  of  the  Finances  for  1864,  page  215:  "Permit  me 
again  to  refer  to  the  anomalous  character  of  the  silver  doUar  of  the 
United  States  and  to  the  observations  on  this  subject  in  former  reports. 
The  whole  dollar  should  be  made  in  weight  and  fineness  the  exact 
multiple  of  our  fractional  currency  and  the  gold  dollar  should  be 
declared  the  unit  of  value  of  our  money." 

From  the  Report  of  the  Finances  for  1868,  page  432:  "Our  silver 
dollar  is  not  received  by  the  Chinese  except  at  a  discount.  This  is 
owing  to  the  fact  that  while  of  equal  fineness  with  the  Spanish 
or  Mexican  dollar  it  is  about    i    per  cent  less  in  weight.     This 


THE  STANDARD  QUESTION:  BIMETALLISM  129 

rejection  seems  to  take  away  the  past  plea  for  continuing  to  coin 
that  piece." 

Could  better  evidence  be  brought  to  show  that  at  this  time  gold 
was  acknowledged  as  the  intended  and  existing  standard,  and  that 
our  currency  was  in  a  highly  satisfactory  condition  ?  The  continued 
coinage  of  the  silver  dollar,  though  no  more  to  any  purpose,  was  as 
yet  no  menace  to  the  existing  national  currency  and  of  little  expense 
to  the  Government;  so  Congress  from  its  usual  conservatism  or  lack 
of  interest  in  the  matter  had  taken  no  notice  of  the  repeated  recom- 
mendations for  its  abolition.. 

D.     International  Bimetallism 
81.    THE  THEORY  OF  INTERNATIONAL  BIMETALLISM 

During  the  latter  part  of  the  nineteenth  century  discussion  of  the 
double  standard  centered  largely  around  the  question  of  international 
as  distinguished  from  national  bimetallism.  There  were  many  writers, 
and  these  the  more  careful  students  of  the  theory  of  bimetallism,  who 
beUeved  that  bimetallism  when  adopted  by  a  single  nation  would 
always  break  down  sooner  or  later,  but  that  it  would  prove  successful 
if  established  uniformly  by  the  leading  nations  of  the  world. 

The  argument  was  that  as  long  as  there  are  different  coinage 
ratios  in  different  countries,  or  so  long  as  some  important  nations  have 
bimetallism  and  some  monometallism,  the  maintenance  of  national 
bimetallism  is  rendered  impossible  on  account  of  the  flow  of  specie 
from  one  country  to  another.  For  instance,  if  gold  were  undervalued 
at  the  United  States  mint  relatively  to  silver,  it  would  be  shipped 
abroad  to  a  country  where  such  undervaluation  was  less,  or  non- 
existent. Such  movement  abroad  would  take  place  whenever  even 
slight  variations  occurred  in  the  ratios  of  different  countries.  But 
if  there  were  an  international  agreement  there  would  be  no  gain 
in  sending  the  undervalued  metal,  to  a  foreign  country  for  the  reason 
that  its  relative  valuation  would  be  the  same  in  all  markets.  Under 
international  bimetallism,  therefore,  the  compensatory  action  of  a 
double  standard  would  be  unimpeded. 

82.    THE  LATIN  MONETARY  UNION 

The  nearest  approach  to  a  trial  of  international  bimetallism  is 
found  in  the  Latin  Monetary  Union.  The  Latin  Union  resulted 
from  the  fall  in  the  value  of  gold  following  the  discoveries  of  gold  in 


I30  PRINCIPLES  OF  MONEY  AND  BANKING 

California  and  Australia.  Under  the  operation  of  Gresham's  law 
even  subsidiary  silver  was  expelled  from  circulation  so  that  there 
was  a  great  dearth  of  small  change.  Switzerland,  like  the  United 
States,  resorted  to  the  use  of  token  coins.  But  as  the  unit  of  value 
was  the  one-franc  piece  (about  19  cents),  Switzerland  first  raised 
the  unit  to  five  francs,  and  then  lowered  the  value  of  the  two-franc, 
one-franc,  and  fifty-centime  pieces,  by  making  them  only  .800  fine. 

This  step  at  once  caused  trouble  in  Italy  and  in  France,  where 
the  franc  system  was  also  in  use.  The  coins  of  these  nations  cir- 
culated in  common  in  the  various  countries,  and  now,  owing  to 
Gresham's  law,  the  cheaper  Swiss  coins  began  to  drive  out  the  dearer 
French  and  Italian  coins.  Accordingly,  in  April,  1864,  France  by  a 
decree  prohibited  the  receipt  of  Swiss  coins  for  public  dues  of  all  kinds, 
and  they  therefore  became  uncurrent. 

Belgium,  also  using  the  franc  system,  about  this  time  made 
overtures  to  France  looking  to  a  concerted  action  by  the  four 
countries  to  remedy  the  existing  evils.  A  conference  of  delegates 
representing  Belgium,  Switzerland,  France,  and  Italy  accordingly 
met  in  Paris  on  November  20,  1865.  Discussion  of  the  state 
of  subsidiary  coins  led  promptly  to  the  larger  question  of  the 
whole  metallic  currency  system.  Belgium,  Switzerland,  and  Italy 
were  strongly  in  favor  of  the  adoption  of  a  single  gold  standard, 
retaining  silver  for  minor  coins  only;  but  the  French  delegates  opposed 
this,  it  is  said,  because  of  the  influence  of  the  Bank  of  France  and  the 
Rothschilds.  They  nevertheless  came  to  an  agreement  and  estab- 
lished a  uniform  currency  for  the  four  countries,  on  the  general  prin- 
ciples of  token  money  as  adopted  by  the  United  States  in  1853. 

They  reduced  the  silver  pieces  of  two  francs,  one  franc,  fifty 
centimes,  and  twenty  centimes  from  .  900  to  .835  fine.  They  retained 
bimetallism,  however,  coining  gold  pieces  of  one  hundred,  fifty,  twenty, 
ten,  and  five  francs,  and  a  five-franc  silver  piece.  These  coins  were 
all  .  900  fine  and  were  coined  at  the  ratio  of  15I  to  i.  Although  each 
country  used  its  own  inscriptions  in  stamping  its  coins,  all  coins  of 
the  Union  were  of  uniform  weight,  fineness,  diameter,  and  tolerance. 
The  subsidiary  silver  coins  were  legal  tender  to  the  amount  of  fifty 
francs  between  citizens  in  each  state,  and  for  public  dues  to  any 
amount.  The  total  quantity  of  coin  outstanding  was  limited,  being 
six  francs  per  capita. 

The  treaty  went  into  effect  on  August  i,  1866,  to  continue  until 
January  i,  1880,  and  at  the  expiration  of  this  time  to  be  automatically 


THE  STANDARD  QUESTION:   BIMETALLISM  13 1 

renewed  for  another  like  period,  and  so  on,  unless  dissolved  a  year 
before  the  expiration  of  the  term.  In  1866  Greece,  Roumania,  and 
the  States  of  the  Church  entered  the  Union. 

Within  a  few  years,  however,  chanj^ed  conditions  of  production 
of  the  precious  metals  caused  the  value  of  silver  to  fall  relatively  to 
gold.  In  1872  the  ratio  reached  15.5  to  i  (coinciding  here  with  the 
mint  ratio).  When  the  ratio  fell  below  this  the  situation  became 
quite  the  opposite  of  what  it  had  been  in  1S65.  The  problem  now 
was  how  to  prevent  silver  from  flooding  the  currency,  rather  than  how 
to  retain  it  in  circulation.  In  1871-72  there  had  been  presented  at 
the  French  mint  for  coinage  into  five-franc  pieces  only  5,000,000 
francs  of  silver  bullion.  But  in  the  single  year  1873,  when  silver 
became  the  cheaper  metal,  154,000,000  francs  were  presented.  On 
December  16,  1873,  Belgium  passed  an  act  authorizing  the  govern- 
ment to  discontinue  the  coinage  of  silver  five-franc  pieces. 

On  January  30,  1874,  a  meeting  of  delegates  from  the  various 
countries  of  the  Union  was  called  at  Paris  to  discuss  the  new  problem 
of  the  silver  coinage.  A  new  treaty  was  agreed  upon  which  provided 
that  during  the  year  1874  the  power  of  coinage  of  the  silver  five-franc 
piece  should  be  restricted,  each  state  being  limited  to  a  moderate 
amount.  This  provision  was  adopted  for  only  one  year,  since  it  was 
believed  that  the  fall  in  the  value  of  silver  would  be  but  temporary, 
having  been  caused  by  the  demonetization  of  silver  by  Germany  in 

1873- 

But  the  value  of  silver  continued  to  fall,  and  the  Latin  Monetary 

Union  therefore  made  its  policy  of  restricting  the  coinage  of  silver 

continuous.     In  1876  the  total  amount  allowed  to  be  coined  for  the 

whole  Union  was  fixed  at  1 20,000,000  francs.     Meanwhile  the  various 

states  did  not  coin  their  full  quotas,  Switzerland  coining  none  in 

either  1875  or  1876. 

Each  state  under  the  terms  of  the  agreement  reserved  the  i)Ower 
to  suspend  the  coinage  entirely,  the  convention  fixing  only  the  maxi- 
mum that  might  be  coined.  As  has  been  seen,  Belgium  exercised  her 
right  to  suspend  the  coinage  of  silver  in  1873.  France  followed 
suit  on  August  5,  1876.  In  1877,  the  Union  itself  entirely  suspended 
the  coinage  of  the  five-franc  silver  piece  for  that  year  (except 
10,000,000  francs  for  Italy). 

Decisive  final  action  was  taken  in  the  treaty  of  November  5, 
1878,  which  provided  that  tlie  "coinage  of  silver  five-franc  pieces 
is  provisionally  suspended.     It  may  be  resumed  when  a  unanimous 


132  PRINCIPLES  OF  MONEY  AND  BANKING 

agreement  to  that  effect  shall  be  established  between  all  the  con- 
tracting states."  This  agreement  was  to  hold  until  January  i,  1886. 
This  treaty  abolished  bimetallism  when  it  prohibited  the  coinage  of 
the  five-franc  silver  piece,  for  this  was  the  only  silver  that  bore  the 
ratio  of  15.5  to  i  to  gold.  The  Union  itself  continued,  however, 
with  the  old  agreement  still  in  force  with  reference  to  the  coinage  of 
subsidiary  silver  at  .835  fine. 

83.    INTERNATIONAL  BIMETALLIC  CONFERENCES' 
By  MAURICE  L.  MUHLEMAN 

The  Bland-Allison  silver  law  of  1878  contained  a  provision  direct- 
ing the  President  of  the  United  States  to  invite  the  nations  of  the 
world  to  meet  in  a  conference  in  Paris  for  the  purpose  of  persuading 
the  nations  of  Europe  and  the  commercial  world  in  general  that  silver 
continue  to  be  necessary  for  monetary  purposes  and  that  an  inter- 
national bimetallism  arrangement  should  be  consmnmated. 

When  the  conference  met  in  May,  1878,  twelve  nations  were 
represented.  Before  its  close  others  were  added.  But  the  delegates 
from  Great  Britain  and  Germany,  as  well  as  those  of  some  other 
countries,  were  without  power  to  bind  their  respective  governments 
by  their  action. 

The  principal  object  was  to  arrive  at  a  ratio  at  which  silver  might 
be  satisfactorily  given  as  great  a  freedom  in  the  mints  of  the  civilized 
world  as  was  given  to  gold.  The  conference  found  no  difficulty  in 
declaring  that  it  was  necessary  to  mamtain  in  the  world  the  monetary 
functions  of  silver  as  well  as  those  of  gold;  but  the  mamier  in  which 
this  was  to  be  accomplished  was  a  point  upon  which  no  agreement 
could  be  reached.  After  full  discussion  and  the  preparation  of  much 
valuable  literature  upon  the  subject  of  money,  the  conference  ad- 
journed late  in  August  without  practical  results. 

Hoping,  rather  than  believing,  that  the  opinions  of  the  principal 
objectors  to  the  rehabilitation  of  silver  (Great  Britain  and  Germany) 
might  have  undergone  a  change,  or  have  become  amenable  to  argu- 
ment, the  United  States  and  France  jointly  invited  the  nations  to  a 
second  conference  in  1881,  also  at  Paris.  This  one  was  as  fully 
attended  by  delegates  as  the  preceding  one.  But  the  delegates  were 
again  unable  to  agree  upon  any  method  by  which  the  desired  object 

'  Adapted  from  Monetary  Systems  of  the  World.  (1895.)  Copyright  by  the 
Author. 


THE  STANDARD  QUESTION:   BIMETALLISM  133 

of  restoring  silver  could  be  accomplished.  An  adjournment  took 
place  in  July,  with  the  understanding  that  the  conference  would 
reassemble  in  April,  1882,  if  called;  but  conditions  were  not  regarded 
as  favorable  to  its  reassembling,  and  the  project  was  left  to  die  of 
compulsory  neglect. 

In  1892  the  United  States  again  invited  the  nations  to  send  dele- 
gates to  a  conference  in  Brussels.  When  it  met,  in  November  of 
that  year,  twenty  nations  were  represented.  The  declared  object 
of  the  conference  was  to  obtain  an  agreement  recommending  inter- 
national bimetallism  upon  a  ratio  for  silver  which  could  be  main- 
tained, but  failing  in  this  the  delegates  from  the  United  States  were 
instructed  to  endeavor  to  induce  European  delegates  to  agree  to  an 
enlargement  of  the  use  of  silver  as  money. 

A  majority  of  the  delegates,  as  in  the  previous  conferences,  sub- 
stantially agreed  upon  the  desirability  of  bimetallism  under  terms  of 
an  international  agreement,  but,  just  as  before,  the  representatives  of 
the  gold  monometallic  countries  of  Europe,  to  which  Austria-Hungary 
was  now  added,  did  not  manifest  much  sympathy  with  the  movement, 
and  in  fact  some  of  the  delegates  declared  that  for  their  respective 
countries  the  single  gold  standard  was  the  only  possible  measure. 
Many  propositions  were,  of  course,  discussed,  but  the  conference, 
after  thanking  the  Government  of  the  United  States  for  calling  them 
together,  ''suspended  its  labors." 

Finally,  in  1897  in  fulfilment  of  a  pledge  in  the  party  platform  of 
1896,  President  McKinley  appointed  a  commission  of  three  persons 
to  visit  Europe  and  make  one  more  effort  to  promote  international 
bimetallism.  France  as  usual  appeared  sympathetic,  but  in  England, 
while  the  government  seemed  willing  to  co-operate,  the  business  com- 
munity objected  with  such  vigor  to  any  tampering  with  the  monetary 
system  that  the  entire  project  had  to  be  abandoned. 


THE  STANDARD  QUESTION:    GOVERNMENT 
PAPER  MONEY 

Introduction 

Paper  money  is  of  so  many  different  kinds  and  the  principles 
advanced  and  used  in  regulating  its  value  have  varied  so  widely  that 
a  clean-cut  treatment  of  the  subject  is  difficult.  In  the  first  place, 
however,  a  fundamental  distinction  should  be  made  between  govern- 
ment and  bank  paper  money.  The  former  is  issued  by  the  state 
itself,  for  the  purpose  of  meeting  current  obligations  when  the 
treasury  is  empty,  or  to  provide  an  inexpensive  and  convenient 
medium  of  exchange  in  the  interest  of  public  welfare;  the  latter  is 
issued  by  privately  managed  institutions  which  are  seeking  private 
profit  from  the  making  of  loans.  The  principles  of  regulation  under- 
lying these  two  forms  of  paper  currency  are  fundamentally  different, 
and  they  cannot  be  satisfactorily  treated  together.  Since  the  regu- 
lation of  bank  paper  is  tied  up  with  the  whole  theory  of  credit  and 
banking,  its  treatment  is  therefore  reserved  until  after  our  study 
of  the  principles  of  banking;  while  the  present  chapter  is  devoted  to 
government  paper  money. 

Government  paper  itself  varies  widely  in  character — from  a  mere 
substitute  in  circulation  for  metallic  money  of  equal  amount  held  in 
reserve,  to  paper  which  itself  constitutes  the  common  denominator 
of  values  and  standard  of  deferred  payments,  as  well  as  the  medium 
of  exchange.  The  chapter  heading  above  therefore  appears  some- 
what inappropriate;  but  since  the  main  problems  of  government 
paper  money  are  connected  with  its  use  as  a  standard,  it  has  seemed 
best  to  treat  the  general  subject  in  connection  with  the  question  of 
standards. 

The  readmgs  under  Section  A  below  clearly  indicate  that  the 
underlying  causes  of  the  advocacy  of  fiat  money  are  the  same  as  those 
underlying  the  desire  for  bimetallism.  Its  history  is  practically 
contemporaneous  with  that  of  the  controversies  discussed  in  preced- 
ing chapters,  and  at  times  the  adherents  of  a  paper  currency  have 

^34 


THE  STANDARD  QUESTION:   PAPER  MONEY  135 

joined  forces  with  those  in  favor  of  a  cheaper  metallic  money  in  the 
hope  of  gaining  the  common  end  of  a  plentiful  supply  of  currency. 

There  have  been  numerous  instances  in  this  and  other  countries 
of  the  use  of  irredeemable  paper  money.  While  there  have  always 
been  many  who  believe  that  irredeemable  paper  is  the  ideal  money 
at  all  times,  the  actual  issue  of  such  currency  has  usually  been  the 
result  of  pressing  financial  needs  on  the  part  of  the  government;  and  as 
a  general  rule  it  has  been  regarded  merely  as  a  temporary  expedient. 
In  particular  the  financial  exigencies  of  war  have  repeatedly  led  to 
the  use  of  paper  money.  In  our  own  histor>',  in  addition  to  the  early 
Colonial  and  Revolutionary  cx-periences,  both  the  South  and  the 
North  during  the  Civil  War  issued  large  quantities  of  paper  with 
which  to  meet  the  immediate  requirements  of  government;  and  in 
the  present  European  struggle  paper  money  issued  through  the  me- 
dium of  central  banks  largely  controlled  by  the  governments  is  appar- 
ently playing  an  important  part  in  meeting  the  enormous  financial 
requirements  of  the  various  nations  involved. 

The  striking  feature  of  the  history  of  paper  money  is  that  once 
an  issue  is  started  it  becomes  well-nigh  impossible  to  check  an  almost 
indefinite  increase.  Let  the  first  step  be  ever  so  hesitant,  when  once 
it  is  taken  other  issues  are  likely  to  follow  in  rapid  succession  until 
the  entire  monetary  system  is  demoralized.  It  is  only  in  rare  instances 
that  issues  have  been  controlled  and  kept  within  limits  of  safety. 

The  effects  of  an  issue  of  irredeemable  paper  currency  have  prac- 
tically always  been  disastrous  in  the  long  run,  resulting  not  only  in  a 
derangement  c:  financial  relations  and  general  disruption  of  business, 
but  also  in  unsettling  the  customary  morality  which  lies  at  the  very 
basis  of  modern  commercial  life.  Rather  than  serving  as  a  real  aid  in 
meeting  the  financial  requirements  of  wars,  in  the  end  paper  money 
has  always  greatly  increased  the  total  cost,  and  in  many  cases  it  has 
proved  the  undoing  of  the  nation  quite  as  much  as  have  the  cannon 
of  the  enemy.  However,  there  have  always  been  plausible  excuses 
for  such  issues,  short-time  necessities  usually  proving  of  more  impor- 
tance than  long-time  considerations.  But  the  history  of  such  issues 
should  teach  a  lesson  of  vital  importance  in  connection  with  financial 
preparedness. 

One  of  the  most  interesting  aspects  of  war  in  general  is  its 
effect  in  coloring  the  views  of  the  following  generation,  often  serving 
to  change  the  fundamental  philosophy  of  national  life.  The  "blood- 
stained and  battle-scarred"  greenback  currency  of  the  Civil   War 


136  PRINCIPLES  OF  MONEY  AND  BANKING 

profoundly  influenced  the  popular  views  on  money  in  this  country 
for  decades;  indeed  we  have  not  fully  recovered  from  its  spell  even 
today.  Moreover,  the  existence  of  $346,000,000  or  more  of  this  cur- 
rency in  our  circulation  continuously  since  the  Civil  War  has  given 
rise  to  an  almost  perpetual  problem  of  regulation,  and  at  times  has 
seriously  deranged  the  entire  monetary  and  financial  structure.  It 
appears  to  be  a  serious  obstacle  even  now  to  the  success  of  the  federal 
reserve  system  in  giving  us  an  elastic  currency.^ 

Numerous  methods  have  been  suggested  for  the  regulation  of 
government  paper  money,  and  there  has  been  no  end  of  argument 
as  to  the  feasibility  of  its  issue  imder  any  circumstances.  Many 
students  believe  that  a  limited  issue  of  irredeemable  paper  would  be 
distinctly  economical,  but  most  of  them  hold  that  the  dangers  attend- 
ing its  use  are  still  too  great  to  warrant  the  risk ;  and  they  therefore 
urge  that  Congress  should  not  be  encouraged  to  play  with  the  fire  at  all. 

A.     Advantages  of  Paper  Currency 
84.    TYPES  OF  GOVERNMENT  PAPER   MONEY 

There  are  three  kinds  or  types  of  government  paper  currency: 
(i)  mere  representative  paper,  (2)  convertible  fiduciary  paper,  and 
(3)  inconvertible  or  fiat  money.  Representative  money  is  backed 
dollar  for  dollar  by  specie,  and  the  paper  certificates  which  circu- 
late are  nothing  more  or  less  than  claim  checks  to  an  equivalent 
in  coin;  it  gives  rise  to  no  problems  of  regulation.  Convertible 
fiduciary  paper  is  exchangeable  for  specie  but  is  not  covered  by  a 
coin  reserve  of  100  per  cent.  Unlike  representative  paper,  it  involves 
an  element  of  trust  or  credit  and  affords  a  means  of  expanding  the 
quantity  of  money  beyond  what  is  possible  with  the  use  of  specie 
alone.  Numerous  devices  have  been  developed  by  means  of  which 
redeemability  may  be  insured  without  a  full  specie  reserve,  and  there 
has  been  a  long-continued  discussion  as  to  the  most  effective  means 
for  the  purpose,  resulting  in  the  development  of  a  fairly  definite  body 
of  principles.  Similarly  there  has  been  a  prolonged  controversy  over 
the  advantages  and  practicability  of  an  irredeemable  paper  currency, 
or  what  may  be  called  the  "fiat"  or  paper  standard  of  value.  This 
controversy  has  disclosed  some  of  the  most  interesting  fallacies  in  the 
whole  realm  of  political  economy,  and  the  ex'periences  of  mankind 
with  irredeemable  paper  money  have  been  among  the  most  costly 
lessons  that  society  has  ever  had  to  learn. 

'See  Reading  No.  147,  Part  II. 


THE  STANDARD  QUESTION:    PAPER  MONEY  137 

85.  THE  ORIGIN  OF  REPRESENTATIVE  MONEY' 

By  W.   STANLEY  JEVONS 

The  origin  of  representative  money  is  of  much  interest.  Ancient 
nations  were  unaccjuainted  with  the  use  of  paper  money,  simply  be- 
cause they  had  no  paper.  But  it  would  be  a  mistake  to  suppose  that 
they  did  not  employ  representative  money. 

One  of  the  very  earliest  mediums  of  exchange  consisted  of  the 
skins  of  animals.  The  earliest  form  of  representative  money  consisted 
of  small  pieces  of  leather,  usually  marked  with  an  official  seal.  It  is  a 
very  reasonable  suggestion  made  by  Storch,  Bernardakis,  and  other 
writers,  that  when  skins  and  furs  began  to  be  found  an  inconveniently 
bulky  kind  of  money,  small  pieces  were  clipped  oH,  and  handed  over 
as  tokens  of  possession.  By  fitting  into  the  place  from  which  they 
were  cut  they  would  prove  ownership,  something  in  the  same  way  as 
notched  sticks,  or  tallies,  were  for  many  centuries  used  to  record  loans 
of  money  to  the  English  Exchequer.  We  know  by  experience  in  the 
case  of  paper  money  that  if  a  people  had  become  thoroughly  accus- 
tomed to  the  circulation  of  these  small  leather  tallies  tliey  would  in 
time  forget  their  representative  character,  and  continue  to  circulate 
them,  when  the  government  or  other  holders  of  the  skins  themselves 
had  made  away  with  the  actual  property.  Such  is  no  doubt  the 
history  of  the  leather  money  which  long  had  currency  in  Russia. 

It  is,  however,  in  China  that  the  use  of  paper  money  was  most 
fully  developed  in  early  times.  More  than  a  century  before  the  Chris- 
tian era  an  emperor  of  China  raised  funds  to  prosecute  his  wars  in  a 
way  which  shows  that  the  use  of  leather  tokens  was  familiar  to  the 
peo[)le.  The  tokens  having  been  made  of  the  skins  of  white  deer,  he 
collected  together  into  a  park  all  deer  of  this  color  which  he  could  find, 
and  prohibited  his  subjects  from  possessing  any  animals  of  the  same 
kind.  Having  thus  obtained  a  monopoly  of  the  material,  reminding 
one  of  the  monopoly  of  the  Bank  of  England  in  water-marked  paper, 
he  issued  pieces  of  white  leather  as  money  at  a  high  rate. 

86.  GENERAL   ADVANTAGES   OF   PAPER  ^lONEY^ 

By  \V.   STANLEY  JEVONS 

There  are  several  purj^oses  that  may  be  detected  in  the  use  of 
paper  currency.    Perhai)s  the  most  obvious  reason  is  that  of  avoiding 

'  Adaiited  from  Money  and  l/ie  Mechanism  of  Exchange  (1875),  PC-  'y-^Q-l- 
(D.  .\pplclon  &  Co.) 
'  Ibid.,  pp.  195-200. 


138  PRINCIPLES  OF  MONEY  AND  BANKING 

the  trouble  and  risk  of  handling  large  amounts  of  the  precious  metals. 
In  order  to  keep  large  sums  of  metallic  money  in  safety  a  person  must 
have  strongholds  and  watchmen.  At  the  present  time  in  the  United 
States  silver  and  gold  certificates  have  come  to  replace  the  actual 
silver  and  gold  coins,  in  part  for  the  reason  just  enumerated  and  in 
part  for  the  one  which  follows. 

The  weight  of  metallic  currency  is  a  second  reason  for  the  use  of 
representative  documents  in  large  transactions.  In  proportion  as  the 
legal  tender  is  more  bulky  and  inconvenient  to  carry  about  is  this 
motive  more  powerful.  Thus,  when  the  state  of  Virginia  employed 
tobacco  as  the  medium  of  exchange  in  the  eighteenth  century,  the 
tobacco  was  placed  in  stores,  and  receipts  on  paper  were  handed  about. 
Paper  money  was  issued  in  Russia  under  Catherine  II  in  1768,  on  the 
ground  that  copper  money,  then  forming  the  legal  tender,  was  incon- 
venient. So  much  were  these  assignats,  or  notes,  preferred  that  they 
at  first  circulated  at  a  premium  of  \  per  cent.  In  the  present  state  of 
commerce  even  gold  money  would  be  far  too  heavy  to  form  a 
convenient  mediiun  of  making  payments.  M.  Chevaher  states 
that  it  would  require  forty  men  to  carry  the  gold  equal  in  value  to  the 
Regent  Diamond.  The  average  daily  transactions  in  the  London 
Banker's  Clearing-House' amount  to  twenty  millions  of  pounds  sterling 
which  if  paid  in  gold  coin  would  weigh  157  tons,  and  would  require 
nearly  eighty  horses  for  conveyance.  If  paid  in  silver  the  weight  would 
be  increased  to  more  than  2,500  tons.  I  find  that  a  Bank  of  England 
note  w-eighs  about  2o|  grains,  whereas  a  single  sovereign  weighs  about 
123  grains,  and  a  note  may  represent  five,  ten,  fifty,  a  thousand,  or 
ten  thousand  such  sovereigns  with  slight  differences  in  the  printing. 
If  we  were  obliged  to  handle  a  medium  of  exchange  actually  embody- 
ing value,  it  would,  ere  now,  have  been  necessary  to  employ  precious 
stones,  or  some  metal  much  more  rare  and  precious  than  gold. 

A  further  and  very  potent  motive  for  employing  representative 
tokens  or  notes  consists  in  the  saving  of  interest  and  capital,  which 
is  effected  by  substituting  a  comparatively  valueless  material  in  place 
of  costly  gold  and  silver.  This  may  be  accomplished  in  two  ways. 
When  in  straits  for  want  of  revenue  a  government  may  issue  paper 
currency  as  a  means  of  paying  its  obligations,  agreeing  to  receive 
back  the  paper  at  some  future  date  in  payment  of  obligations  to  it. 
It  will  be  observed  that  this  is  a  forced  loan  which  enables  a  govern- 
ment to  procure  funds  without  interest.  A  saving  of  interest  is  also 
effected  whenever  a  government  has  paper  notes  outstanding  in  excess 


THE  STANDARD  QUESTION:    PAPER  MONEY  139 

of  the  gold  held  in  readiness  to  redeem  them.  The  greenback  cur- 
rency of  the  United  States  is  a  case  in  point.  There  are  $346,000,000 
outstanding  with  a  specie  reserve  of  only  $150,000,000. 

87.    CHINESE  PAPER  MONEY  IN  THE  THIRTEENTH  CENTURY' 
By  MARCO  POLO 

Now  that  I  have  told  you  in  detail  of  the  splendour  of  this  City  of 
the  Emperor's,  I  shall  proceed  to  tell  you  of  the  Mint  he  hath  in  the 
same  city,  in  which  he  hath  his  money  coined  and  struck,  as  I  shaU 
relate  to  you.  And  in  doing  so  I  shall  make  manifest  to  you  how  it  is 
that  the  Great  Lord  may  well  be  able  to  accomplish  even  much  more 
than  I  have  told  you,  or  am  going  to  tell  you,  in  this  book.  For,  tell 
it  how  I  might  you  never  would  be  satisfied  that  I  was  keeping  within 
truth  and  reason! 

The  Emperor's  ]Mint  then  is  in  this  same  City  of  Cambaluc,  and 
the  way  it  is  wrought  is  such  that  you  might  say  he  hath  the  Secret 
of  Alchemy  in  perfection,  and  you  would  be  right!  For  he  makes  his 
money  after  this  fashion. 

He  makes  them  take  of  the  bark  of  a  certain  tree,  in  fact,  of  the 
Mulberry  Tree,  the  leaves  of  which  are  the  food  of  the  silkworms — 
these  trees  being  so  numerous  that  whole  districts  are  full  of  tliem. 
What  they  take  is  a  certain  fine  white  bast  or  skin  which  lies  between 
the  wood  of  the  tree  and  the  thick  outer  bark,  and  this  they  make  into 
something  resembling  sheets  of  paper,  but  black.  When  these  sheets 
have  been  prepared  they  are  cut  up  into  pieces  of  different  sizes. 
The  smallest  of  these  sizes  is  worth  a  half  tornesel;  the  next,  a  little 
larger,  one  tornesel;  one,  a  little  larger  still,  is  worth  half  a  silver 
groat  of  Venice;  another  a  whole  groat;  others  yet  two  groats,  five 
groats,  and  ten  groats.  There  is  also  a  kind  worth  one  Bezant  of 
gold,  and  others  of  tliree  Bezants,  and  so  up  to  ten.  All  these  pieces 
of  paper  are  issued  with  as  much  solemnity  and  authority  as  if  tliey 
were  of  pure  gold  or  silver;  and  on  every  piece  a  variety  of  officials, 
whose  duty  it  is,  have  to  write  their  names  and  to  put  their  seals. 
And  when  all  is  prepared  duly,  the  chief  officer  deputed  by  the  Kaan 
smears  the  Seal  entrusted  to  him  with  vermilion,  and  impresses  it  on 
the  paper,  so  that  the  form  of  tlie  Seal  remains  printed  upon  it  in  red; 
the  Money  is  then  authentic.    Any  one  forging  it  would  be  punished 

'  Henry  Yule's  edition  of  Travels  of  Marco  Polo,  pp.  423-26.  (J.  Murray, 
1903-) 


I40  PRINCIPLES  OF  MONEY  AND  BANKING 

with  death.  And  the  Kaan  causes  every  year  to  be  made  such  a  vast 
([uantity  of  this  money,  which  costs  him  nothing,  that  it  must  equal 
in  amount  all  of  the  treasure  of  the  world. 

With  these  pieces  of  paper,  made  as  I  have  described,  he  causes 
all  payments  on  his  own  account  to  be  made;  and  he  makes  them  to 
pass  current  universally  over  all  his  kingdoms  and  provinces  and  terri- 
tories, and  whithersoever  his  power  and  sovereignty  extend.  And 
nobody,  however  important  he  may  think  himself,  dares  to  refuse 
them  on  pain  of  death.  And  indeed  everybody  takes  them  readily, 
for  wheresoever  a  person  may  go  throughout  the  Great  Kaan's  domin- 
ions he  shall  find  these  pieces  current,  and  shall  be  able  to  transact  all 
sales  and  purchases  of  goods  by  means  of  them  just  as  well  as  if  they 
were  coins  of  pure  gold.  And  all  the  while  they  are  so  light  that  ten 
Bezants'  worth  does  not  weigh  one  golden  Bezant. 

Furthermore  all  merchants  arriving  from  India  or  other  countries, 
and  bringmg  with  them  gold  or  silver  or  gems  and  pearls,  are  pro- 
hibited from  selling  to  anyone  but  the  Emperor.  He  has  twelve 
experts  chosen  for  this  business,  men  of  shrewdness  and  experience 
in  such  affairs;  these  appraise  the  articles  and  the  Emperor  then  pays 
a  liberal  price  for  them  in  those  pieces  of  paper.  The  merchants  accept 
his  price  readily,  for  in  the  first  place  they  would  not  get  so  good  a 
one  from  anybody  else,  and  secondly  they  are  paid  without  any  delay. 
And  with  this  paper  money  they  can  buy  what  they  like  anywhere 
over  the  Empire,  whilst  it  is  also  vastly  lighter  to  carr}'-  about  on  their 
journeys.  And  it  is  a  truth  that  the  merchants  will  several  times  in 
the  year  bring  wares  to  the  amount  of  400,000  Bezants,  and  the 
Grand  Sire  pays  for  all  in  that  paper.  So  he  buys  such  a  quantity  of 
those  precious  things  every  year  that  his  treasure  is  endless,  whilst 
all  the  time  the  money  he  pays  away  costs  him  nothing  at  all.  More- 
over, several  tunes  in  the  year  proclamation  is  made  through  the  city 
that  any  one  who  may  have  gold  or  sUver  or  gems  or  pearls,  by  taking 
them  to  the  Mint  shall  get  a  handsome  price  for  them.  And  the  owners 
are  glad  to  do  this,  because  they  would  find  no  other  purchaser  give 
so  large  a  price.  Thus  the  quantity  they  bring  in  is  marvellous,  though 
those  who  may  not  choose  to  do  so  may  let  it  alone.  Still,  in  this  way, 
nearly  all  the  valuables  in  the  countr}^  come  into  the  Kaan's  possession. 

When  any  of  tliose  pieces  of  paper  are  spoilt — not  that  they  are  so 
very  flimsy  either — the  owner  carries  them  to  the  Mint,  and  by  pay- 
ing 3  per  cent  on  the  value  he  gets  new  pieces  in  exchange.    And  if 


THE  STANDARD  QUESTION:    PAPER  MONEY  141 

any  Baron,  or  anyone  else  soever,  hath  need  of  gold  or  silver  or  gems 
or  pearls,  in  order  to  make  plate,  or  girdles,  or  the  like,  he  goes  to  the 
Mint  and  buys  as  much  as  he  list,  paying  in  this  paper  money. 

Now  you  have  heard  the  ways  and  means  whereby  the  Great 
Kaan  may  have,  and  in  fact  has,  more  treasure  than  all  the  Kings  in 
the  World;   and  you  know  all  about  it  and  the  reason  why. 

88.     PAPER   MONEY  AND   PROSPERITY' 

Paper  currency  would  increase  the  wealth  of  the  nation  in  the 
following  ways: 

I.  It  would  replace  a  very  expensive  medium  of  exchange — Gold, 
by  a  very  cheap  one — Paper.  The  fifty  or  sixty  millions  of  gold  which 
are  now  supposed  to  be  in  circulation,  and  which  are  merely  used  as 
counters,  would  be  then  replaced  by  notes.  Here  at  once  would  be  a 
saving  of  more  than  two  millions  a  year,  by  converting  this  large 
amount  of  dead  stock  into  active,  productive  stock  (hear).  Suppose  a 
farmer  had  been  taught  that  it  was  necessary  to  use  a  golden  plough- 
share worth  £1,000,  and  a  man  came  and  said,  "I  will  make  for  you  a 
ploughshare  of  iron  for  100  pence,  which  will  do  the  work  just  as  well " : 
it  is  plain  that  the  farmer  would  have  the  difference  between  £1,000 
and  100  pence  to  employ  as  active  capital  (hear).  He  could  improve 
his  land,  drain,  manure,  and  what  not,  when  he  had  substituted  a  cheap 
ploughshare  for  a  dear  one  (hear,  hear).  Lord  Liveqiool's  wisdom  led 
him  to  a  contrary  opinion,  when  he  advocated  the  introduction  of  the 
present  system.  "The  richest  standard,  Gold,"  said  he,  "is  best 
adapted  for  a  rich  country."  The  country  was  prospering  with,  and 
by,  cheap  money.  "  Adopt  an  expensive  money,"  said  Lord  Liverj30ol. 
"Plough  your  land  with  a  golden  ploughshare."  We  did  so,  and  threw 
aside  an  inexpensive  and  tried  instrument  merely  to  adopt  a  fanciful 
theory  (hear,  hear,  and  cheers). 

II.  But  the  most  important  advantage  of  a  Representative  Paper 
Currency  is  this — that  we  should  obtain  a  circulating  medium  capable 
of  expansion,  a  money  in  which  prices  would  be  able  to  rise  as  taxes 
are  imposed,  so  that  taxes  might  be  added  to  the  cost  of  production, 
and  a  remunerative  price  be  obtained  (hear).     And  further,  as  our 

'Adapted  from  an  "Address  to  the  Retford  Currency  Society"  in  Currency 
Tracts.  Published  by  the  Society  for  tlie  Emancipation  of  Industry.  (London, 
1851.) 


142  I'RINCIPLES  OF  MONEY  AND  BANKING 

population  increased,  and  our  commodities  increased  also — in  other 
words,  as  our  buyers  and  sellers  increased — money,  the  medium  of 
exchange  between  man  and  man,  might  increase  in  due  proportion. 
Peoj)le  sometimes  ask  me  why  the  law  which  governs — or  which 
oug/il  to  govern — the  Currency,  cannot  be  discovered?  It  is  discov- 
ered. "Supply  and  demand,"  I  say,  "is  the  law  of  the  Currency." 
As  men  increase,  more  food  is  required,  and  more  clothes  are  required; 
and  if  left  to  itself,  the  supply  will  increase  with  the  demand.  So  it  is 
with  Money.  Make  Paper  Money  as  safe  as  you  please — make  it  as 
safe  and  secure  as  gold  itself;  and  this  we  can  prove  can  be  done — 
and  then  leave  the  trade  in  money  free.  Leave  it  to  the  general,  the 
universal  law  of  trade,  viz.,  Supply  and  Demand  (hear,  hear). 

I  say  that  exi:)erience  fully  justifies  the  expectations  of  an  improved 
state  of  things  resulting  from  an  alteration  of  the  Currency  Laws.  I 
say  that  the  Paper  Money  System,  which  enabled  this  coimtry  to 
prosper  in  spite  of  war,  would  produce  tenfold  advantages  in  a  time 
of  peace  (hear).  Observe,  I  do  not  say  that  Paper  Money  would  do 
everything.  I  do  not  say,  for  instance,  that  it  would  enable  a  farmer 
to  prosper  without  skill,  labour,  judgment,  and  a  fair  amount  of 
capital  (hear).  I  do  not  say  that  it  would  supply  the  place  of  science 
and  of  knowledge  in  the  direction  of  a  man's  energies.  I  know  that 
under  any  financial  system,  vice,  improvidence,  and  ignorance  will 
bear  their  pernicious  fruits.  But  I  do  say  that  it  would  secure  to  labour 
its  just  reward;  that  it  would  afford  to  every  man  of  integrity,  talent, 
and  energy',  a  fair  opportunity  of  improving  his  condition;  that  it 
would  prevent  the  attempts  which  are  made  for  raising  the  condition 
of  the  people  from  being  counteracted  by  the  frequent  recurrence  of 
those  periods  of  severe  distress  and  privation  in  which  their  moral 
condition  inevitably  deteriorates  (cheers).  I  say  that  the  Paper 
Money  System  which  enabled  this  country  to  lend  to  Government 
600  millions,  would  enable  the  country  to  pay  off  the  debt,  and  thus 
cause  a  reduction  of  nearly  30  millions  of  taxes.  I  believe  that  this 
country  might  then  advance  to  a  greater  height  of  happiness  and 
prosperity  than  ever — that  instead  of  disunion  and  ill-will,  we  might 
see  all  classes  flourishing,  and  contributmg  to  each  other's  prosperity; 
that  the  well-being  of  the  poor  would  furnish  the  best  security  for  the 
possessions  of  the  rich;  that  men  would  learn  to  prize  the  institutions 
under  which  they  live  happily;  and  that  England  would  become  the 
instrument,  in  the  hand  of  Providence,  of  civilizing,  elevating,  and 
Christianizmg  tlie  whole  world. 


THE  STANDARD  QUESTION:    PAPER  MONEY  143 

89.    RECENT  ARGUMENTS  FOR  PAPER  MONEY' 

1.  I  am  not  stuck  on  silver  and  gold  as  circulating  mediums.  A 
piece  of  paper  is  my  ideal.  Geologists  have  things  so  fine  that  they 
can  estimate  the  quantities  of  silver  and  gold  in  the  mountams,  and 
the  government  should  issue  silver  certificates  to  an  amount  equivalent 
to  that  estimate.  It  would  be  far  safer,  as  it  would  be  easy  for  a  for- 
eign nation  to  capture  the  coin  in  the  treasury  vaults  at  Washington; 
but  the  mountains  they  could  not  remove,  even  by  all  the  faith  they 
could  muster. 

2.  We  (speaking  for  the  Farmers'  Alliance)  believe  in  the  people 
making  their  own  money;  we  believe  in  the  Government,  which  is 
simply  the  agent  of  the  people,  issuing  their  money  directly  to  them 
without  going  around  Robin  Hood's  barn  to  find  them. 

3.  If  the  people  had  twice  as  much  currency  in  their  pockets  as 
now,  their  prosperity  would  be  greatly  increased. 

4.  I-  am  in  favor  of  more  currency.  We  haven't  enough  currency 
per  capita  to  do  the  business  of  the  countr}^  If  we  cannot  increase 
the  currency,  I  think  somebody  ought  to  issue  more  coUateral.  There 
is  usually  enough  money  if  a  man  has  the  collateral. 

5.  Aly  monetary  system  eliminates  from  money  both  the  element 
of  intrinsic  value  and  the  power  to  limit  or  control  the  value  of  things 
of  use.  I  propose  that  the  Government  only  shall  issue  money  for  the 
public  use.  In  order  to  do  this,  I  would  have  it  issue  immediately 
500,000,000  new  treasury  notes  of  the  denomination  of  one  dollar 
each.  So  much  of  this  amount  as  was  necessary  the  Government 
should  loan  to  the  people;  10  per  cent  of  each  loan  to  be  paid  back 
each  year;  9  per  cent  to  be  applied  to  the  extinction  of  the  principal, 
I  per  cent  covering  the  interest.  In  that  way  it  would  be  possible 
to  redeem  every  mortgaged  farm  in  the  land  within  fifteen  years. 

6.  Banks  should  not  be  allowed  to  issue  notes.  These  should  be 
printed  and  put  out  by  the  Government.  The  tariff  should  be  reduced 
till  there  is  a  deficit  in  the  treasury,  and  then  greenbacks  should  be 
printed  and  issued  to  pay  all  claimants.  These  should  not  be  redeem- 
al)le  in  metal  money.  Each  bill  should  bear  the  legend,  "One  dollar, 
receivable  for  all  dues  and  debts."  This  would  make  it  receivable  for 
all  taxes  and  import  duties,  and  a  legal  tender.  This  would  keep  it 
peq:)etually  at  par. 

7.  Tens  of  thousands  of  our  farmers  have  been  unfortunate,  and 
can  never  get  out  of  delH  without  special  relief.    I  would  enact  a  law 

'  Adapted  from  Cculiiry  Magazine,  XLII  (i8qi),  310-11. 


144  PRINCIPLES  OF  MONEY  AND  BANKING 

stopping  the  big  interest  they  have  agreed  to  pay,  and  substituting  a 
debt  at  I  per  cent  interest.  It  would  be  done  in  thi..  way:  Suppose  I 
owe  you  $5,000  and  accumulated  interest  on  my  farm.  This  new  law 
would  direct  you  to  add  the  interest  to  the  principal,  and  go  to  the 
treasury  of  my  county  and  file  tlie  mortgage  and  an  abstract  of  the 
property,  and  get  a  check  on  the  nearest  bank  for  the  entire  debt. 
That  would  satisfy  you.  Then  the  county  treasurer  makes  a  draft 
on  the  United  States  treasurer  for  the  money,  and  gets  it  in  crisp 
new  bills.  That  satisfies  him.  The  United  States  treasurer  accepts 
the  mortgage  on  the  farm^ — ^providing  it  is  worth  the  amount  of  the 
mortgage — and  sends  word  to  me  when  the  i  per  cent  interest  is  due. 
Is  not  that  simple  ?  It  is  the  first  news  I  have  had  of  the  transfer  of 
the  debt.    That  ought  to  suit  everybody. 


B.     History  of  Government  Paper  Money 

(i)     SOME  EARLY  EXPERIENCES 

90.    THE   FRENCH  ASSIGNATS  AND   MANDATS' 

One  of  the  first  and  most  serious  troubles  which  confronted  the 
republic  established  by  the  French  Revolution  of  1789  was  the  scarcity 
of  money.  This  was  due  to  many  causes,  but  chiefly,  says  Thiers,  to 
the  "want  of  confidence  occasioned  by  the  disturbances."  The  same 
authority  adds  the  following  general  truth  about  circulation,  which 
is  applicable  to  all  countries  and  in  all  times:  "Specie  is  apparent  by 
the  circulation.  When  confidence  prevails,  the  activity  of  exchange  is 
extreme;  money  moves  about  rapidly,  is  seen  everywhere,  and  is 
believed  to  be  more  considerable  because  it  is  more  serviceable;  but 
when  political  commotions  create  alarm,  capital  languishes,  specie 
moves  slowly;  it  is  frequently  hoarded,  and  complaints  are  unjustH 
made  of  its  absence."  To  increase  the  supply  of  circulating  medium 
it  was  proposed  that  the  National  Assembly  issue  paper  money  based 
on  the  Church  lands  which  had  been  confiscated  by  the  Government. 
These  lands  were  yielding  no  revenue,  but  were  a  heavy  burden. 
The  money,  to  be  called  assignats,  was  really  a  form  of  titles  to  the 
confiscated  lands;  for  it  was  receivable  in  payment  for  them,  and  was 
designed,  in  addition  to  furnishing  revenue  to  the  Government,  to 
bring  about  a  distribution  of  those  lands  among  tlie  people.     The 

'  Adapted  from  Century  Magazine,  XLIV(i892),  791-93. 


THE  STANDARD  QUESTION:    PAPER  MONEY  145 

debates  of  the  National  Assembly  upon  the  proposition  showed  that 
John  Law's  experiment  had  not  been  entirely  forgotten.  There  w^as 
strong  opposition,  but  it  was  overcome  by  the  usual  arguments  in 
favor  of  cheap  money.  "Paper  money,"  said  one  of  the  advocates  of 
the  assignats,  "under  a  despotism  is  dangerous;  it  favors  corruption: 
but  in  a  nation  constitutionally  governed,  which  takes  care  of  its  own 
notes,  which  determines  their  number  and  use,  that  danger  no  longer 
exists." 

These  curious  arguments  carried  the  day  in  the  National  Assembly, 
and  a  first  issue  of  assignats,  to  the  value  of  400,000,000  francs,  was 
issued  in  December,  1789.  They  bore  interest,  and  were  made  payable 
at  sight,  but  no  interest  was  ever  paid,  and  subsequent  issues  had  no 
interest  provision.  The  first  issue  represented  about  one-fifth  of  the 
total  value  of  the  confiscated  lands. 

Yet  with  this  solid  basis  of  value  upon  which  to  rest,  the  assignats 
never  circulated  at  par.  A  few  months  after  the  first  issue  demands 
began  to  be  made  for  a  second  issue,  as  is  invariably  the  case  in  ail 
ex-j^eriments  of  this  kind.  Talleyrand  opposed  the  second  issue  in  a 
speech  of  great  ability,  many  of  whose  passages  have  passed  into 
economic  literature  as  model  statements  of  fundamental  monetary 
principles.  "The  assignat,"  he  said,  "considered  as  a  title  of  credit, 
has  a  positive  and  material  value;  this  value  of  the  assignat  is  pre- 
cisely the  same  as  that  of  the  land  which  it  represents,  but  still  it  must 
be  admitted,  above  all,  that  never  will  any  national  paper  be  upon  a 
par  with  the  metals;  never  will  the  supi)lementary  sign  of  tlie  first 
representative  sign  of  wealth  have  the  exact  \^alue  of  its  model;  the 
very  title  proves  want,  and  want  spreads  alarm  and  distrust  around  it." 
And  again:  "You  can  arrange  it  so  that  people  shall  be  forced  to  take 
a  thousand  francs  in  paper  for  a  thousand  francs  in  specie,  but  you 
never  can  arrange  it  so  that  the  people  shall  be  obliged  to  gi\-e  a  thou- 
sand francs  in  specie  for  a  thousand  francs  in  paper."  Still  again: 
**  Assignat  money,  however  safe,  however  solid  it  may  be,  is  an 
abstraction  of  paper  money;  it  is  consequently  but  the  free  or  forced 
sign,  not  of  wealth,  Ijut  merely  of  credit."  In  answer  to  the  arguments 
of  Talleyrand,  the  most  effective,  because  most  "taking,"  argument, 
if  argument  it  can  be  called,  was  the  following  by  JMirabeau:  "It  is 
in  vain  to  compare  assignats,  secured  on  the  solid  basis  of  these  do- 
mains, to  an  ordinary  paper  currency  possessing  a  forced  circulation. 
They  rei)rcsent  real  property,  the  most  secure  of  all  possessions,  the 
land  on  which  we  tread." 


146  PRINCIPLIvS  OF  MONEY  y\ND  HANKING 

This  resounding  phrase  of  Mirabeau  carried  the  day  in  the  National 
Assemlily,  and  in  Scptcmljer,  1790,  a  second  issue  of  assignats,  to 
the  value  of  800,000,000  francs,  bearing  no  interest,  was  ordered. 

The  decree  for  this  second  issue  contained  a  pledge  that  in  no 
case  should  the  amount  of  assignats  exceed  twelve  hundred  millions. 
But  the  nation  was  drunk  with  its  own  stimulant,  and  pledges  were 
of  no  value.  In  June,  1791,  a  third  issue  of  600,000,000  was  ordered. 
This  was  followed  soon  afterward  by  a  fourth  issue  of  300,000,000, 
and  by  a  new  pledge  that  the  total  amount  should  never  be  allowed  to 
exceed  sixteen  hundred  millions.  But  this  pledge,  like  two  others  that 
had  been  made  before  it,  was  broken  as  soon  as  a  demand  for  more 
issues  became  irresistible.  Fresh  issues  followed  one  another  in  rapid 
succession  in  1792,  and  at  the  close  of  that  year  an  official  statement 
was  put  forth  that  a  total  of  thirty-four  hundred  mUHons  had  been 
issued,  of  which  six  hundred  millions  had  been  destroyed,  leaving 
twenty-eight  hundred  millions  in  circulation. 

Specie  had  disappeared  from  circulation  soon  after  the  second 
issue,  and  the  value  of  the  assignats  began  to  go  steadily  and  rapidly 
downward.  Business  and  industry  soon  felt  the  effects,  and  the 
inevitable  collapse  followed.  Ex-President  Andrew  D.  White,  whose 
tract.  Paper  Money  Inflation  in  France,  is  the  most  admirable  and 
complete  statement  of  this  experience  which  has  been  published,  says 
of  the  situation  at  this  stage:  "What  the  bigotry  of  Louis  XIV,  and 
the  shiftlessness  of  Louis  XV,  could  not  do  in  nearly  a  century,  was 
accomplished  by  this  tampering  with  the  currency  in  a  few  months. 
Everything  that  tariffs  and  custom-houses  could  do  was  done.  Still 
the  great  manufactories  of  Normandy  were  closed;  those  of  the  rest 
of  the  kingdom  speedily  followed,  and  vast  numbers  of  workmen,  in 
all  parts  of  the  country,  were  thrown  out  of  employment. 

"In  the  spring  of  1791  no  one  knew  whether  a  piece  of  paper 
money,  representing  100  francs,  would,  a  month  later,  have  a  pur- 
chasing power  of  100  francs,  or  90  francs,  or  80,  or  60.  The  result 
was  that  capitalists  declined  to  embark  their  means  in  business. 
Enterprise  received  a  mortal  blow.  Demand  for  labor  was  still  further 
diminished.  The  business  of  France  dwindled  into  a  mere  living  from 
hand  to  mouth.  This  state  of  things,  too,  while  it  bore  heavily  against 
the  interests  of  the  moneyed  classes,  was  still  more  ruinous  to  those 
in  more  moderate,  and  most  of  all  to  those  in  straitened,  circumstances. 
With  the  masses  of  the  people  the  purchase  of  every  article  of  supply 
became  a  speculation — a  speculation  in  which  the  professional  specu- 


THE  STANDARD  QUESTION:    PAPER  MONEY  147 

lator  had  an  immense  advantage  over  the  buyer.  Says  the  most 
brilliant  apologist  for  French  Revolutionary  statesmanship,  'Com- 
merce was  dead;  betting  took  its  place. '  " 

In  the  early  part  of  1792  the  assignat  was  30  per  cent  below  par. 
In  the  following  year  it  had  fallen  to  67  per  cent  below  par.  A  basis 
for  further  issues  was  secured  by  the  confiscation  of  lands  of  emigrant 
nobles,  and  a  flood  of  assignats  poured  forth  upon  the  country  in 
steadily  increasing  volume.  Before  the  close  of  1 794  seven  thousand 
millions  had  been  issued,  and  the  year  1796  opened  with  a  total  issue 
of  forty-five  thousand  millions,  of  which  thirty-six  thousand  millions 
were  in  actual  circulation.  By  February  of  that  year  the  total  issue 
had  advanced  to  45,500,000,000,  and  the  value  had  dropped  to  one 
two-hundred-and-sixty-fifth  part  of  their  nominal  value.  A  note 
professing  to  be  worth  about  $20  of  our  money  was  worth  about 
six  cents. 

The  Government  now  came  forward  with  a  new  scheme,  offering 
to  redeem  the  assignats,  on  the  basis  of  30  to  i,  for  mandats,  a  new 
form  of  paper  money,  which  entitled  the  holder  to  take  immediate 
possession,  at  their  estimated  value,  of  any  of  the  lands  pledged  by 
the  assignats.  Eight  hundred  millions  in  mandats  were  issued,  to  be 
exchanged  for  the  assignats,  and  the  plates  for  printing  the  latter 
were  destroyed.  Six  hundred  millions  more  of  mandats  were  issued 
for  the  public  service.  At  first  the  mandats  circulated  at  as  high  as 
80  per  cent  of  their  nominal  value,  but  additional  issues  sent  them 
down  in  value  even  more  rapidly  than  the  assignats  had  fallen,  and 
in  a  very  short  time  they  were  worth  only  one- thousand tli  part  of 
their  nominal  value.  It  was  evident  that  the  end  had  come.  Before 
the  assignats  were  withdrawn,  the  Government  resorted  to  various 
expedients  to  hold  up  their  value  by  legislative  decrees.  The  use  of 
coin  was  prohibited;  a  maximum  price  in  assignats  was  fixed  for 
commodities  by  law;  the  purchase  of  specie  was  forbidden  under 
penalty  of  imprisonment  in  irons  for  six  years;  and  the  sale  of  assig- 
nats below  their  nominal  value  was  forbidden  under  penalty  of  im- 
prisonment for  twenty  years  in  chains.  Investment  of  capital  in 
foreign  countries  was  punishable  with  death.  All  these  efforts  were  as 
futile  as  similar  efforts  had  been  m  John  Law's  time.  The  value  of 
the  assignats  went  steadily  down.  Bread  riots  broke  out  in  Paris, 
and  the  Government  was  compelled  to  supply  the  capital  with  pro- 
visions.    When  tlie  mandats  fell,  as  the  assignats  had  fallen  before 


l4cS  PRINCIPLES  OF  MONEY  AND  BANKING 

Ihem,  the  Government  was  convinced  that  it  was  useless  to  try  to 
give  value  to  valueless  paper  by  simply  printing  more  paper  and  call- 
ing it  by  another  name;  and  on  July  i,  1796,  it  swept  away  the  whole 
mass  by  issuing  a  decree  authorizing  everybody  to  transact  business 
in  any  money  he  chose.  "No  sooner,"  says  Mr.  McLeod,  in  his 
Economical  Philosophy,  "was  this  great  blow  struck  at  the  paper 
currency,  of  making  it  pass  at  its  current  value,  than  specie  immedi- 
ately reappeared  in  circulation."  In  commenting  upon  this  second 
experience  of  France  with  paper  money,  which  lasted  for  about  six 
years,  Professor  A.  L.  Perry,  in  his  Elements  of  Political  Economy, 
thus  graphically  and  truthfully  sums  up  the  consequences:  "The 
distress  and  consternation  into  which  a  country  falls  when  its  current 
measure  of  services  is  disturbed  and  destroyed,  as  it  was  in  this  case, 
is  past  all  powers  of  description.  The  prisons  and  the  guillotine  did 
not  compare  with  the  assignats  in  causing  suffering  during  those  six 
years.  This  example  is  significant  because  it  shows  the  powerlessness 
of  even  the  strongest  and  most  unscrupulous  governments  to  regulate 
the  value  of  anything.  The  assignats  were  depreciating  during  the 
very  months  in  which  Robespierre  and  the  Committee  of  Public 
Safety  were  wielding  the  power  of  life  and  death  in  France  with 
terrific  energy.  They  did  their  utmost  to  stop  the  sinking  of  the 
Revolutionary  paper.  But  value  knows  its  own  laws,  and  follows 
them  in  spite  of  decrees  and  penalties." 

91.     SOUTH   CAROLINA'S  FIRST  PAPER  MONEY^ 
ANONYMOUS 

The  first  paper  money  issued  in  the  Province  of  South  Carolina 
was  by  virtue  of  an  Act  of  the  General  Assembly,  May  8,  1703,  en- 
titled "An  Act  for  Raising  the  Sume  of  four  thousand  pounds,  on  the 
real  and  personal  estates,  and  of  and  from  the  profits  and  revenues,  of 
the  inhabitants  of  this  Province,  and  establishing  bills  of  credit,  for 
satisfying  the  debts  due  by  the  public  on  account  of  the  late  expedition 
of  St.  Augustine." 

By  this  Act  £6  000  in  bills  of  credit  were  stamped  and  issued, 
bearmg  an  interest  of  1 2  per  cent  per  annum  from  the  date  of  the  bill 
to  the  time  the  same  was  paid  to  the  public  receiver;  and  the  said 
bills  were  to  be  sunk  and  cancelled  by  the  tax  raised  by  this  Act; 

•Adapted  from  Sound  Currency,  V  (1898),  No.  4,  pp.  34-44.  Evidently  written 
in  1739  by  some  unknown  person. 


THE  STANDARD  QUESTION:    PAPER  MONEY  149 

£2,000  to  be  raised  and  paid  on  February  i,  1703;  £2,000  on  February 
I,  1704;  and  the  remainder  by  means  of  duties  arising  by  an  Act 
made  on  IVIay  6,  1703,  entitled  "an  Act  for  laying  an  imposition 
on  furrs,  skins,  liquors,  and  other  goods  and  merchandize,  imported 
into  and  exported  out  of  this  Province." 

By  an  Act  of  December  20,  1703,  the  public  receiver  is  directed 
to  cancel  £3,000  of  the  former  bills  when  the  tax  assessments  shall 
be  raise.d;  and  £r,ooo  in  bills  at  12  per  cent  is  continued  current, 
any  limitation  in  the  former  Act  notwithstanding. 

And  by  an  Act,  passed  November  4,  1704,  reciting  "that  a  great 
part  of  the  money  and  bills  appropriated  by  the  before  recited  Acts 
for  particular  uses,  viz.,  calling  in  and  sinking  the  bills  of  credit,  had, 
for  the  immediate  service  and  necessary  defence  of  the  Province,  been, 
by  order  of  the  General  Assembly,  made  use  of  for  other  purposes 
than  they  were  appointed  for  and  appropriated  to  by  the  said  Acts," 
it  was  enacted  that  such  payments  should  be  deemed  legal,  and  the 
receiver  was  indemnified  and  acquitted,  as  fully  as  if  he  had  duly 
applied  the  same  to  the  uses  appointed  by  the  Acts  first  recited. 

On  the  same  day,  November  4,  1704,  another  Act  was  passed  for 
raising  the  sum  of  £4,000  on  the  real  and  personal  estates,  and  of  and 
from  the  profits  and  revenues  of  the  inhabitants  of  the  Province,  to 
pay  and  cancel  the  bills  of  credit  now  outstanding.  This  Act  recites 
"that  the  urgent  necessity  for  fortifying  Charles  Town,  and  other 
occasions  for  the  defence  of  the  Province  against  the  common  enemy, 
had  exhausted  the  public  treasury,  and  prevented  the  calling  in  and 
sinking  the  bills  of  credit.  Therefore  it  was  enacted  that  the  bills 
should  continue  current,  and  a  tender  in  law,  with  the  interest  of  12 
per  cent  until  March  10,  1705;  and  a  tax  of  £4,000  was  imposed, 
payable  on  the  JVIarch  9,  1705,  and  appropriated  for  calling  in  the 
bills  of  credit  which  were  then  outstanding.  A  penalty  was  laid  on 
the  public  treasurer,  that  if  he  misapplied  any  of  the  sums  so  appro- 
priated, he  should  forfeit  treble  the  value  of  the  sum  misappHed,  and 
should  be  rendered  incapable  of  holding  any  office  in  the  government. 

But  after  the  passing  of  this  Act,  another  Act  was  made,  on  April 
9,  1706,  entitled  "an  Act  for  the  sooner  and  more  secure  payment 
of  the  debts  owing  by  the  pul)lic,  and  for  the  continuing  the  currency 
of  the  bills  of  credit,  commonly  called  country  bills."  By  this  Act, 
all  taxes  laid  by  any  former  Acts  of  Assembly,  and  the  duties  imposed 
by  the  Act  passed  May  6,  1703,  were  continued  and  made  current, 
and  three-fourths  of  the  duties  before  mentioned  (after  the  payment 


I50  PRINCIPLES  OF  MONEY  AND  BANKING 

of  the  pul:)lic  debts  and  the  clergy's  salaries)  were  appropriated 
toward  the  sinking  and  discharging  the  bills  of  credit,  and  the  remain- 
ing fourth  part  of  the  said  duties  were  to  be  disposed  of  by  order  of 
the  General  Assembly,  for  the  contingencies  of  the  government. 

The  next  Act,  July  5,  1707,  provides  for  an  additional  emission 
of  paper  currency,  "for  satisfying  the  debts  due  by  the  public  on  ac- 
count of  the  late  invasion;  for  finishing  the  fortifications  about 
Charles  Town;  to  revive  the  several  Acts  therein  mentioned;  and 
to  call  in  the  former  bills  of  credit."  By  this  Act,  not  only  £8,000  in 
new  bills  were  issued  for  payment  of  the  public  debts,  but  the  old 
bills  which  were  outstanding  were  exchanged  for  new  bills,  and  were 
by  that  means  continued  current,  and  made  a  tender  in  all  payments. 
This  Act  was  made  of  force  for  two  years,  but  was  continued  for  four 
years,  by  an  Act  passed  July  1 2,  1707.  This  date  was  shortly  extended 
for  another  year;  and  then  "to  the  end  of  the  next  session  of  the 
General  Assembly."  By  another  Act  passed  February  14,  1707, 
entitled  "an  Act  for  the  better  enabling  the  Governour  to  raise  a 
force  against  our  public  enemies,  and  to  raise  money  to  defray  the 
charges  of  the  same,  by  establishing  bills  of  credit,"  a  further  sum 
of  £3,000  was  issued  in  bills  of  credit,  £2,000  of  which  was  to  exchange 
part  of  the  old  bills,  which  were  too  large,  and  the  other  £1,000  was 
to  remain  in  the  treasury,  to  answer  the  emergencies  of  the  govern- 
ment. 

A  very  short  time  after  passing  this  Act,  on  April  24,  1708,  an 
Act  was  passed  for  rai'sing  a  further  sum  of  £5,000  in  bills  of  credit, 
to  be  ready  in  the  public  receiver's  hands  to  answer  all  emergencies; 
it  provided  a  fund  to  sink  them,  and  the  duties  imposed  by  the 
former  Acts  were  continued  to  July  12,  17 14,  and  from  thence  to 
the  end  of  the  next  session  of  the  General  Assembly.  On  the  ist 
day  of  ISIarch,  17 10,  an  Act  was  passed  for  raising  the  sum  of  £3,000 
in  small  bills,  for  sinking  £1,000  of  the  former  bills;  and  £2,000  to 
be  applied  in  the  payment  of  the  debts  due  from  the  pubHc. 

The  next  emission  of  paper  bills  of  credit  was  said  to  be  in  con- 
sideration of  the  great  expense  the  Province  had  been  at  in  building 
fortifications,  and  for  assisting  the  inhabitants  of  North  Carolina 
against  the  Tusquerora  Indians,  who  were  then  at  war  with  them, 
with  twenty  white  men  and  such  Indians  as  could  be  raised.  On  these 
considerations  an  Act  passed  November  10,  17 11,  "for  raising  the 
sum  of  £4,000,  by  laying  sundry  additional  duties  on  liquors  and 
other  goods  and  merchandises,  for  carrjdng  on  an  expedition  against 


THE  STANDARD  QUESTION:    PAPER  MONEY  151 

the  northern  Indians,  enemies  to  the  Crown  of  Great  Britain,  and 
for  aiding  and  assisting  the  inhabitants  of  North  Carolina,  who  are 
now  actually  invaded  by  the  said  Indians." 

The  Bank  Act  of  June  7,  1712,  was  "an  Act  for  raising  the  sum  of 
£52,000,  by  stamping  and  establishing  new  Ijills  of  credit,  and  putting 
the  same  out  to  interest,  in  order  to  call  in  and  sink  the  former  bills 
of  credit."  From  the  year  1703  to  the  time  of  passing  this  Act,  by 
the  various  emissions  of  bills  of  credit  at  the  several  times  herein]:)efore 
mentioned,  there  had  been  issued  £29,000,  which,  either  by  a  partial 
application  of  the  funds  appropriated  for  sinking  them,  by  the  exchan- 
ging old  bills  for  new,  or  by  bills  lost  or  destroyed  by  accident,  were, 
at  the  time  of  passing  this  Act,  reduced  to  £16,000,  exclusive  of  the 
Tusquerora  bills,  amounting  to  £4,000. 

In  the  preamble  of  the  Bank  Act  it  is  declared  "that  the  public 
debts,  occasioned  by  the  vast  charges  to  which  the  Province  for 
several  years  past  had  been  subject  and  liable  ....  were  become 
at  last  so  greatly  burthensome  and  considerable,  that  there  was  no 
hope  or  probability  that  the  same  could  be  discharged  in  any  toler- 
able time,  by  the  public  duties  and  incomes  of  this  Province;  and  that 
it  was  also  impracticable  (especially  at  that  time)  to  discharge  and 
defray  the  same  by  the  ordinary  method  of  imposing  a  tax  on  the 
estates,  stocks,  and  abilities  of  the  inhabitants  of  the  Province,  with- 
out pressing  too  hard  upon  them";  therefore  £16,000  was  issued  for 
exchanging  the  old  bills;  £32,000  to  be  let  out  at  interest,  payable 
in  12  years,  at  such  a  rate  as  would  sink  both  principal  and  interest 
at  the  end  of  that  term;  £4,000  was  also  directed  to  be  issued  for  the 
contingencies  of  the  government.  These  together  with  the  Tusque- 
rora bills  made  a  total  of  £56,000.  This  was  9  years  from  the  date 
of  the  first  issue. 

In  17 15  a  new  series  of  emissions  begins.  By  an  Act  of  August  27, 
a  further  sum  of  £30,000  in  bills  of  credit  were  stamped  and  issued; 
and  it  was  provided  by  this  Act,  that  in  order  to  strengthen  the 
currency  of  the  bills  newly  issued,  a  fund  should  be  provided  for 
sinking  the  same  by  a  tax;  and  accordingly,  on  the  same  day  there 
was  passed  an  "Act  to  raise  the  sum  of  £30,000  on  the  real  and  per- 
sonal estates  of  the  inhabitants  of  this  Province,  in  order  to  sink  the 
sum  of  £30,000  in  bills  of  credit." 

But  within  a  year  another  Act  was  passed,  to  continue  the  cur- 
rency of  £30,000  in  bills  of  credit,  and  also  to  stamp  the  sum  of 


152  PRINCIPLES  OF  MONEY  AND  BANKING 

£i5,cx)0  in  bills  of  credit.  In  the  reciting  part  of  this  Act  it  is  taken 
notice,  "that  by  reason  of  the  late  troubles  and  confusions  occasioned 
by  the  Indian  war  the  tax  appointed  to  be  raised  by  the  Act  made 
27th  August,  1715,  for  sinking  the  said  sum  £30,000  in  bills  of  credit 
lately  issued,  is  therefore  repealed  and  declared  void."  £15,000 
additional  issues  were  sanctioned.  The  taxation  principle  again  was 
not  forgotten;  and  an  Act  was  promptly  passed  for  raising  £95,000, 
a  large  portion  of  which  was  to  be  used  in  cancelling  the  outstanding 
paper.  As  before,  however,  no  bills  were  cancelled,  and  a  succeeding 
act  therefore  continued  them.  This  Act  of  December  11,  17 17,  also 
stated  that  "it  has  been  found  by  experience  that  the  multiplicity  of 
bills  of  credit  had  been  the  cause  of  the  ruin  of  our  trade  and  commerce, 
and  had  been  the  great  evil  of  this  Province;  and  that  it  ought,  with 
all  expedition,  to  be  remedied."  It  was  therefore  the  resolution  of 
both  Houses  of  Assembly  that  the  above-mentioned  bills  of  credit, 
the  bank  bills  excepted,  amounting  to  £54,000,  should  be  sunk  on  or 
before  the  2d  Tuesday  in  March,  17 18.  But  by  an  Act  passed  20th 
February,  1718,  entitled  "an  Act  for  raising  the  sum  of  £70,000  on 
lands  and  negroes,  for  defraying  the  public  debts,  sinking  the  public 
orders,  and  for  calling  in  and  cancelling  the  sum  of  £30,000  which  is 
now  outstanding  in  bills  of  credit,  over  and  besides  the  bank  bills," 
the  last  above  mentioned  is  repealed  and  made  void,  and  a  new  provi- 
sion is  made  for  sinking  the  bills  by  taxes,  to  be  paid  at  three  periods, 
with  liberty  that  such  taxes  might  be  paid  in  rice  at  certain  prices, 
varying  with  the  date  of  payment. 

Toward  the  latter  end  of  the  year  17 19,  the  people  of  South 
Carolina  threw  off  the  government  of  the  Lords  Proprietors,  and  chose 
a  new  Governour  and  Council,  and  during  those  confused  times  new 
currency  principles  were  developed.  New  bills  were  issued,  payable 
in  rice  at  305.  per  hundred.  The  old  bills  of  credit  were  made  legal 
tender  in  .all  payments,  thus  putting  them  all  on  an  equaUty.  It  was 
also  provided,  September  21,  17  21,  that  the  sum  of  £4,000  of  the  said 
bills  of  credit,  then  outstanding,  should  yearly,  and  ever}^  year,  be 
sunk,  called  in,  and  cancelled,  by  a  tax  to  be  raised  on  lands  and 
slaves,  over  and  above  the  several  sums  of  money  to  be  yearly  raised 
for  the  support  of  the  Government.  And  liberty  was  given  by  this 
Act  to  all  persons  to  pay  their  taxes  in  these  paper  bills  of  credit. 

The  reasons  given  for  this  new  departure,  as  they  are  set  down  in 
the  preamble,  are  as  follows,  to  wit:  "  that  it  was  ver}'  uncertain  what 
quantity  of  bills  of  credit  were  then  current,  many  of  them  bemg 


THE  STANDARD  QUESTION:    PAPER  MONEY  153 

counterfeited,  and  they  being  then  so  old,  that  it  was  absoluteh- 
necessary  that  they  should  be  called  in  and  reprinted.  And  that  bv 
reason  of  the  great  floods,  many  of  the  inhabitants  had  lost  their 
crops,  and  most  had  suffered  so  much  by  the  same,  that  they  were 
rendered  incapable  to  pay  the  yearly  rice  tax  necessary  to  be  raised 
for  the  support  of  the  Government."  At  this  time  the  total  outstand- 
ing issues  had  reached  £120,000.  The  exchange  rates  in  English 
money  were  at  a  heavy  premium,  about  five  to  one. 

After  his  Majesty  had  purchased  the  soil  of  this  Province,  the 
late  Governour  Johnson  was  appointed  and  received  from  his  Majesty 
several  instructions  relating  to  the  paper  bills  of  credit.  It  was  first 
provided  that  the  revenues  appropriated  to  the  discharge  of  old  bills 
of  credit  should  be  used  for  seven  years  for  the  purchase  and  laying 
out  of  townships,  and  for  the  purchasing  of  tools,  provisions,  and 
other  necessaries  "for  any  poor  Protestants  that  shall  be  desirous  to 
settle  in  our  said  Province."  This  was  made  law  by  an  Act  of  August 
20,  1 73 1,  and  was  adhered  to  for  several  years. 

The  second  instruction  of  Governour  Johnson  led  to  the  act  of 
August  20,  1 73 1,  for  calling  in,  reprinting,  and  exchanging  all  paper 
bills  of  credit,  the  amount  then  outstanding  being  £106,500.  This 
act  is  significant  because  no  fund  was  appointed  or  established  for 
the  gradual  repaying  and  cancelling  of  the  bills.  At  this  time  it  took 
approximately  £6  in  paper  to  equal  £1  in  English  money.  By  1739 
(the  date  of  writing  this  article)  the  rate  of  exchange  was  seven  to  one. 

92.    SUMMARY  OF  COLONIAL  ISSUES' 
By  HORACE  WHITE 

There  were  three  main  causes  or  excuses  for  the  issue  of  colonial 
bills  of  credit:  (i)  war  expenses;  (2)  loans  to  individuals;  (3)  ordi- 
nary expenses  of  government.  There  were  other  pretexts.  One  of  the 
most  common  was  the  replacement  of  old  and  worn  bills,  which  always 
left  a  margin  over  for  general  expenses,  and  sometimes  a  ver>'  large 
margin. 

Colonial  bills  of  credit  were  of  several  dififerent  kinds,  viz.,  (i) 
interest-bearing,  not  legal  tender  (these  were  unobjectionable); 
(2)  the  same,  legal  tender  for  the  principal  and  sometimes  for  the 
interest  also;  (3)  non-interest-bearing,  legal  tender  for  all  purposes; 
(4)  the  same,  legal  tender  for  future  but  not  for  past  debts;    (5)  the 

'Adapted  from  Money  atid  Banking,  pp.  83-84,     (Ginn  &  Co.,  18Q5.) 


154  pRiN(ii'i.i;s  or  money  and  banking 

same,  nol  legal  lender  between  j^rivale  persons,  but  receivable  for 
all  public  dues. 

Interest-1)earing  bills  were  soon  abandoned  and  the  tendency  in 
all  the  colonies  was  to  make  the  bills  legal  tender  for  all  purposes. 
But  for  the  restraints  imposed  by  the  mother-country  probably  all 
would  have  been  legal  tender  for  all  i)uri)oses,  and  the  issues  would 
have  been  much  larger  in  amount  than  they  were. 

The  usual  course  of  events  where  bills  of  credit  were  issued  (but 
with  some  variations)  was  as  follows:  (i)  emission;  (2)  disappear- 
ance of  specie;  (3)  counterfeiting;  (4)  wearing  out  of  bills;  (5)  calling 
in  and  replacing  worn  and  counterfeited  issues  with  new  ones;  (6) 
extending  the  time  for  old  ones  to  run,  especially  those  that  had  been 
placed  on  loan;  (7)  depreciation;  (8)  repudiation  of  early  issues  in 
part  and  the  emission  of  others  called  "new  tenor." 

(2)     PAPER  MONEY  AS  A  MEANS  OF  WAR  FINANCE 

93.    THE  ISSUE  OF   CONTINENTAL  BILLS  OF   CREDIT' 

By  CHARLES  J.   BULLOCK 

Within  six  weeks  after  the  Continental  Congress  convened  on 
May  ID,  1775,  the  issue  of  bills  of  credit  as  a  means  of  financing  the 
Revolution  was  determined  upon.  Before  the  close  of  1775  Congress 
issued  $6,000,000  of  paper  money  and  urged  the  states  to  redeem 
their  respective  quotas  of  the  bills  by  imposing  taxes.  But  the  states 
refused  to  resort  to  taxation,  except  for  inconsiderable  sums,  and  con- 
tinued to  emit  increasing  amounts  of  their  own  paper.  After  unsuc- 
cessful efforts  to  raise  revenue  by  such  expedients  as  a  lottery  and  a 
domestic  loan,  larger  continental  issues  had  to  be  emitted.  In  1777, 
Congress  began  to  make  requisitions  upon  the  states  for  money  that 
was  to  be  raised  by  taxes  which  only  the  states  could  impose;  but 
these  requests  met  with  such  a  partial  compliance  that  further'  issues 
of  paper  were  placed  in  circulation.  Several  years  elapsed  before  the 
states  instituted  effective  systems  of  taxation,  and  little  assistance 
was  secured  from  this  source.  Loans  and  subsidies  furnished  by 
France  brought  considerable  sums  into  the  federal  treasury;  but  more 
and  more  paper  was  emitted,  the  amounts  of  the  issues  increasing 
as  the  depreciation  of  the  currency  progressed.  By  the  end  of  1779, 
Congress  had  issued  $241,500,000  of  the  continental  bills  of  credit; 
while  the  states  had  gradually  increased  their  emissions  to  more  than 

•  Adapted  from  The  Monetary  History  of  the  United  States,  pp.  64-65.  (The 
Macmillan  Co.,  igoo.) 


THE  STANDARD  QUESTION:    PAPER  MONEY  155 

$200,000,000.  At  the  opening  of  1781,  a  dollar  in  paper  was  worth 
less  than  two  cents  in  specie,  and  the  currency  soon  afterward  sank 
in  value  to  such  an  extent  that  it  became  practically  worthless. 

94.    EFFECTS   OF    CONTINENTAL    CURRENCY   ON    DEBTORS 
AND   CREDITORS' 

By  DAVID   RAMSAY 

The  aged  who  had  retired  from  the  scenes  of  active  business,  to  en- 
joy the  fruits  of  their  industry,  found  their  substance  melting  away  to  a 
mere  pittance,  insufficient  for  their  support.  The  widow  who  lived 
comfortal)ly  on  the  bequests  of  a  deceased  husband  experienced  a 
frustration  of  all  his  well-meant  tenderness.  The  laws  of  the  country 
interposed,  and  compelled  her  to  receive  a  shilling  where  a  pound 
was  her  due.  The  blooming  virgin  who  had  grown  up  with  an  unques- 
tionable title  to  a  liberal  patrimony  was  legally  stripped  of  every- 
thing but  her  personal  charms  and  virtues.  The  hapless  orphan, 
instead  of  receiving  from  the  hands  of  an  executor  a  competency  to 
set  out  in  business,  was  obliged  to  give  a  final  discharge  on  the  pay- 
ment of  M.  in  the  pound.  In  many  instances,  the  earnings  of  a  long 
life  of  care  and  diligence  were,  in  the  space  of  a  few  years,  reduced  to  a 
trifling  sum.  A  few  persons  escaped  these  affecting  calamities,  by 
secretly  transferring  their  bonds,  or  by  flying  from  the  presence  or 
neighborhood  of  their  debtors.  A  hog  or  two  would  pay  for  a  slave; 
a  few  cattle  for  a  comfortable  house;  and  a  good  horse  for  an  improved 
plantation.  A  small  part  of  the  productions  of  a  farm  would  dis- 
charge the  long-outstanding  accounts,  due  from  its  owner.  The 
dreams  of  the  golden  age  were  realized  to  the  poor  man  and  the 
debtor,  but  unfortunately  what  these  gained  was  just  so  much  taken 
from  others. 

95.    DEMORALIZING  INFLUENCE  OF  THE   CONTINENTAL 

CURRENCY^ 

By   PELATIAH   WEBSTER 

The  fatal  error,  that  the  credit  and  currency  of  the  Continental 
money  could  be  kept  up  and  supported  by  acts  of  compulsion,  entered 
so  deep  into  the  mind  of  Congress  and  of  all  departments  of  admin- 
istration   throughout    the   States   that  no  considerations  of  justice, 

'Adapted  from  History  of  American  Rcvolulion  (.1789),  II,  134-35. 
'Adapted  from  Strict iirrs  on  Tender  Acts  (1780). 


156  PRINCIPLES  OF  MONEY  AND  BANKING 

religion,  or  policy,  or  even  experience  of  its  utter  inefficacy,  could 
eradicate  it;  it  seemed  to  be  a  kind  of  obstinate  delirium,  totally 
deaf  to  every  argument  drawn  from  justice  and  right,  from  its 
natural  tendency  and  mischief,  from  common  sense,  and  even 
common  safety. 

Congress  began  as  early  as  January  11,  1776,  to  hold  up  and 
recommend  this  maxim  of  maniasm,  when  Continental  money  was 
but  five  months  old.  Congress  then  resolved,  that  "whoever  should 
refuse  to  receive  in  payment  Continental  bills,  &c.,  should  be  deemed 
and  treated  as  an  enemy  of  his  country,  and  be  precluded  from  all 
trade  and  intercourse  with  the  inhabitants,"  &c.,  i.e.,  should  be  out- 
lawed; which  is  the  severest  penalty  (except  of  life  and  limb)  known 
in  our  laws. 

This  ruinous  principle  was  continued  in  practice  for  five  suc- 
cessive years,  and  appeared  in  all  shapes  and  forms,  i.e.,  in  tender 
acts,  in  limitations  of  prices,  in  awful  and  threatening  declarations, 
in  penal  laws  with  dreadful  and  ruinous  punishments,  and  in  every 
other  way  that  could  be  devised,  and  all  executed  with  a  relentless 
severity  by  the  highest  authorities  then  in  being,  viz.,  by  Congress,  by 
Assembhes  and  Conventions  of  the  States,  by  Committees  of  Inspec- 
tion (whose  power  in  those  days  were  nearly  sovereign),  and  even  by 
military  force;  and  tho'  men  of  all  descriptions  stood  trembling  be- 
fore this  monster  of  force,  without  daring  to  lift  a  hand  against  it, 
during  all  this  period,  yet  its  unrestrained  energy  ever  proved  inef- 
fectual to  its  purposes,  but  in  every  instance  increased  the  evils  it 
was  designed  to  remedy,  and  destroyed  the  benefits  it  was  intended 
to  promote;  at  best  its  utmost  effect  was  like  that  of  water  sprinkled 
on  a  blacksmith's  forge,  which  indeed  deadens  the  flame  for  a  moment, 
but  never  fails  to  increase  the  heat  and  force  of  the  internal  fire. 
Many  thousand  families  of  full  and  easy  fortune  were  ruined  by  these 
fatal  measures,  and  lie  in  ruins  to  this  day,  without  the  least  benefit 
to  the  country,  or  to  the  great  and  noble  cause  in  which  we  were 
then  engaged. 

It  has  polluted  the  equity  of  our  laws;  turned  them  into  engines  of 
oppression  and  wrong;  corrupted  the  justice  of  our  public  adminis- 
tration; destroyed  the  fortunes  of  thousands  who  had  most  confidence 
in  it,  and  has  gone  far  to  destroy  the  morality  of  our  people. 


THE  STANDARD  QUESTION:    PAPER  MONEY  157 

96.     THE   SPIRIT  OF  THE  TIMES' 
Sons  of  Boston!  Sleep  No  Longer! 

Wednesday,  June  16,  1779. 

You  are  requested  to  meet  on  the  floor  of  the  Old  Scotch  Meeting 
House  to-morrow  morning,  at  9  o'clock,  at  which  time  the  bells  will 
ring. 

Rouse  and  catch  the  Philadelphia  spirit;  rid  the  community  of 
those  monopolizers  and  extortionators,  who,  like  canker  worms,  are 
gnawing  upon  your  vitals.  They  are  reducing  the  currency  to  waste 
paper,  by  refusing  to  take  it  for  many  articles;  the  infection  is  dan- 
gerous. We  have  borne  with  such  wretches,  but  will  bear  no  longer. 
PubUc  example,  at  this  time,  would  be  public  benefits!  You  then 
that  have  articles  to  sell,  lower  your  prices;  you  that  have  houses  to 
let,  refuse  not  the  currency  for  rent;  for  inspired  with  the  spirit  of 
those  heroes  and  patriots,  who  have  struggled  and  bled  for  their 
country,  and  moved  with  the  cries  and  distress  of  the  widow,  the 
orphan  and  the  necessitous,  Boston  shall  no  longer  be  your  place  of 
security!  Ye  inhabitants  of  Nantucket,  who  first  introduced  the 
accursed  crime  of  refusing  paper  money,  quit  the  place,  or  destruction 
shall  attend  your  property,  and  your  persons  be  the  object  of 

Vengeance. 

N.B.  Lawyers,  keep  yourselves  to  yourselves.  It  is  our  determi- 
nation to  support  the  reputable  merchant  and  fair  trader. 

97.    THE  EXCUSE  FOR  CONTINENTAL  CURRENCY^ 
By  CHARLES  J.   BULLOCK 

The  Continental  Congress  has  often  been  blamed  for  resorting 
to  the  disastrous  expedient  of  issuing  paper  money,  but  the  financial 
policy  of  the  Revolution  was  practically  settled  by  the  j)rovincial 
assemblies.  Congress  did  not  convene  in  Philadelphia  until  May  10, 
and  did  not  determine  to  issue  bills  of  credit  until  June  22.  Mean- 
while, Connecticut  had  decided  in  April  to  emit  paper  money;  and 
Massachusetts  had  adopted  a  similar  measure  seven  days  before  Con- 
gress assembled.     Before   the  month  of  May  had  exi)ired,   Rhode 

■  Prom  Phillips,  Historical  Skclclics  of  the  Paptr  Currency,  p.  128. 
'  .Adapted  from  The  Monetary  History  of  the  ignited  iitates,  pp.  60-63.     (The 
Macmillan  Co.,  1900.) 


1S8  PRINCIPLES  OF  MONEY  AND  BANKING 

Island  pursued  a  similar  course;  and,  in  June,  New  Hampshire,  Penn- 
sylvania, and  South  Carolina  followed  suit.  During  the  next  few 
months  all  the  other  colonies,  without  a  single  exception,  decided  to 
provide  the  sinews  of  war  by  means  of  bills  of  credit. 

Although  the  Continental  Congress  was  a  revolutionary  assembly 
which  might  conceivably  have  attempted  to  assume  all  the  authority 
of  a  strong  national  government,  it  is  almost  certain  that  such  a 
course  would  have  resulted  in  the  downfall  of  that  body.  It  was  in 
reality  a  consultative  assemblage,  whose  powers  were  limited  by  the 
wishes  of  the  several  colonies.  In  order  to  exist  and  to  maintain  any 
respect  for  its  authority,  Congress  had  to  be  governed  by  the  temper 
of  its  constituents;  and,  in  respect  to  the  proper  financial  policy,  the 
wishes  of  the  people  of  America  had  already  been  indicated  with  suf- 
ficient clearness  by  the  action  of  the  various  provincial  assemblies. 
These  bodies  had  commonly  pledged  the  half  or  the  whole  of  their 
estates  for  the  preservation  of  their  sacred  liberties,  but  they  had 
shown  a  uniform  determination  to  raise  money  by  sacrificing  only 
the  estates  of  those  people  who  were  helpless  to  avoid  the  losses  of  a 
depreciating  currency.  It  is  perfectly  true  that  the  expenses  of  any 
war  must,  apart  from  help  secured  in  foreign  countries,  be  defrayed 
out  of  the  annual  produce  of  the  industry  of  a  people;  and  that 
taxation  is  the  safest,  surest,  and  wisest  method  of  meeting  such 
expenditures.  But  the  hands  of  Congress  seem  to  have  been  bound 
by  its  lack  of  authority  and  the  manifest  desires  of  the  people.  The 
New  York  assembly,  and  probably  some  others,  had  conveyed  to  the 
men  gathered  in  Philadelphia  explicit  statements  of  their  sentiments; 
and  the  actions  of  various  provincial  congresses  in  actually  issuing 
paper  were  more  significant  than  any  words. 

Thus  the  Continental  Congress  and  the  individual  colonies  of 
states,  undertook  to  carry  on  the  struggle  for  independence  by  the 
aid  of  bills  of  credit.  The  dangers  of  such  a  course  were  fully  appre- 
ciated by  many  men,  but  the  temper  of  the  great  body  of  the  people 
could  not  be  mistaken.  Recent  historians  have  investigated  with 
great  care  and  entire  fairness  the  extent  and  character  of  the  opposi- 
tion which  the  revolutionary  movement  encountered  from  many  of 
the  most  intelligent  and  respectable  persons  in  America,  and  have 
assured  us  that  earlier  writers  have  failed  to  do  justice  to  the  strength 
and  honesty  of  that  party  which  considered  separation  from  the 
mother-country  to  be  unnecessary  and  undesirable.  With  the  history 
of  colonial  paper  currencies  before  us,  it  is  reasonable  to  believe  that 


THE  STANDARD  QUESTION:    l*Al'i:k   MOXKV  159 

the  fear  of  reckless  issues  of  bills  of  credit  was  certainly  one  cause  for 
the  hostile  attitude  assumed  by  a  large  portion  of  the  conservative, 
propertied  classes. 

98.    PAPER  CURRENCY  OF  THE  CONFEDERACY' 
By  G.  C.  EGGLESTON 

The  history  of  the  South  during  the  Civil  War  furnishes  one  of 
the  best  illustrations  on  record  of  the  disastrous  consequences  of 
relying  mainly  upon  the  issue  of  irredeemable  paper  currency  as  a 
means  of  financing  war.  There  were  some  slight  ta.x  levies,  it  is  true, 
and  some  borrowing  through  the  use  of  bonds,  but  paper  money  was 
looked  to  from  the  first  as  the  chief  fiscal  resource  of  the  government. 
There  was  only  one  difficulty  incident  to  the  process  of  printing 
treasury  notes  enough  to  meet  all  the  expenses  of  the  government, 
namely,  the  impossibility  of  having  the  notes  signed  in  the  Treasury 
Department  as  fast  as  they  were  needed.  There  happened,  however, 
to  be  several  thousand  young  ladies  in  Richmond  willing  to  accept 
light  and  remunerative  employment  in  their  homes,  and  as  it  was 
really  a  matter  of  small  moment  whose  name  the  notes  bore,  they  were 
given  out  in  sheets  to  these  young  ladies,  who  signed  and  returned 
them  for  a  consideration.  I  shall  not  undertake  to  guess  how  many 
Confederate  treasury  notes  were  issued.  Indeed,  I  am  credibly  in- 
formed by  a  gentleman  who  was  high  in  oflSce  in  the  Treasury  Depart- 
ment, that  even  the  secretary  himself  did  not  certainly  know.  The 
acts  of  Congress  authorizing  issues  of  currency  were  the  hastily  formu- 
lated thought  of  a  not  very  wise  body  of  men,  and  my  informant  tells 
me  that  they  were  frequently  susceptible  of  widely  different  construc- 
tion by  different  oflficials.  However  that  may  be,  it  was  clearly  out 
of  the  power  of  the  government  ever  to  redeem  the  notes,  and  what- 
ever may  have  been  the  state  of  aiTairs  within  the  Treasury,  nobody 
outside  its  precincts  ever  cared  to  muddle  his  head  in  an  attempt  to 
get  at  exact  figures. 

We  knew  only  that  money  was  astonishingly  abundant.  Provi- 
sions fell  short  sometimes,  and  the  supply  of  clothing  was  not  always 
as  large  as  we  should  have  liked,  but  nobody  found  it  difficult  to  get 
money  enough.    It  was  to  be  had  almost  for  the  asking. 

Money  was  so  easily  got,  and  its  value  was  so  utterly  uncertain, 
that  we  were  never  able  to  determine  what  was  a  fair  price  for  any- 
thing.   We  fell  into  the  habit  of  paying  whatever  was  asked,  knowing 

'  Adapted  from  A  Rebel's  Recollections,  pp.  78-105.    (Hurd  &  HouKiUon,  1875.) 


l6o  PRINCIPLES  OF  MONEY  AND  BANKING 

that  tomorrow  wc  should  have  to  pay  more.  Speculation  became  the 
easiest  and  surest  thing  imaginable.  The  speculator  saw  no  risks  of 
loss.  Every  article  of  merchandise  rose  in  value  every  day,  and  to 
buy  anything  this  week  and  sell  it  next  was  to  make  an  enormous 
prolit  quite  as  a  matter  of  course. 

Naturally  enough,  speculation  soon  fell  into  very  bad  repute,  and 
the  epithet  "speculator"  came  to  be  considered  the  most  opprobrious 
in  the  whole  vocabulary  of  invective.  The  feeling  was  universal  that 
the  speculators  were  fattening  upon  the  necessities  of  the  country 
and  the  sufferings  of  the  people.  Nearly  all  mercantile  business  was 
regarded  with  suspicion,  and  much  of  it  fell  into  the  hands  of  people 
with  no  reputations  to  lose,  a  fact  which  certainly  did  not  tend  to 
relieve  the  community  in  the  matter  of  high  prices. 

The  prices  which  obtained  were  almost  fabulous,  and  singularly 
enough  there  seemed  to  be  no  sort  of  ratio  between  the  values  of  dif- 
ferent articles.  I  bought  cofifee  at  forty  dollars  and  tea  at  thirty 
dollars  a  pound  on  the  same  day.  My  dinner  at  a  hotel  cost  me 
twenty  dollars,  while  five  dollars  gained  me  a  seat  in  the  dress  circle 
of  the  theater.  I  paid  one  dollar  the  next  morning  for  a  copy  of  the 
Examiner,  but  I  might  have  got  the  Whig,  Dispatch,  Enquirer,  or 
Sentinel  for  half  that  sum.  For  some  wretched  tallow  candles  I  paid 
ten  dollars  a  pound.  The  utter  absence  of  proportion  between  these 
several  prices  is  apparent,  and  I  know  of  no  way  of  explaining  it 
except  upon  the  theory  that  the  unstable  character  of  the  money 
had  superinduced  a  reckless  disregard  of  all  value  on  the  part  of  both 
buyers  and  sellers.  A  facetious  friend  used  to  say  prices  were  so  high 
that  nobody  could  see  them,  and  that  they  "got  mixed  for  want  of 
supervision."  He  held,  however,  that  the  difference  between  tlie  old 
and  the  new  order  of  things  was  a  trifling  one.  "Before  the  war," 
he  said,  "I  went  to  market  with  the  money  in  my  pocket,  and  brought 
back  my  purchases  in  a  basket;  now  I  take  the  money  in  the  basket, 
and  bring  the  things  home  in  my  pocket." 

In  the  winter  of  1863-64  Congress  became  aware  of  the  fact  that 
prices  were  higher  than  they  should  be  under  a  sound  currency.  If 
Congress  suspected  this  at  any  earlier  date,  there  is  nothing  in  the 
proceedings  of  that  body  to  indicate  it.  Now,  however,  the  news- 
papers were  calling  attention  to  an  uncommonly  ugly  phase  of  the 
matter,  and  reminding  Congress  that  what  the  government  bought 
with  a  currency  depreciated  to  less  than  i  per  cent  of  its  face,  the 
government  must  some  day  pay  for  in  gold  at  par.    The  lawgivers 


THE  STANDARD  QUESTION:    PAPER  MONEY  i6l 

took  the  alarm  and  sat  themselves  down  to  devise  a  remedy  for  the 
evil  condition  of  affairs.  With  that  infantile  simplicity  which  char- 
acterized nearly  all  the  doings  and  quite  all  the  financial  legislation 
of  the  Richmond  Congress,  it  was  decided  that  the  very  best  way  to 
enhance  the  value  of  the  currency  was  to  depreciate  it  still  further 
by  a  declaratory  statute,  and  then  to  issue  a  good  deal  more  of  it. 
The  act  set  a  day,  after  which  the  currency  already  in  circulation 
should  be  worth  only  two-thirds  of  its  face,  at  which  rate  it  was  made 
convertible  into  notes  of  the  new  issue,  which  some,  at  least,  of  the 
members  of  Congress  were  innocent  enough  to  believe  would  be 
worth  very  nearly  their  par  value.  This  measure  was  intended,  of 
course,  to  compel  the  funding  of  the  currency,  and  it  had  that  elTect 
to  some  extent,  without  doubt.  Much  of  the  old  currency  remained 
in  circulation,  however,  even  after  the  new  notes  were  issued.  For  a 
time  people  calculated  the  discount,  in  passing  and  receiving  the  old 
paper,  but  as  the  new  notes  showed  an  undiminished  tendency  to  still 
further  depreciation,  there  were  people,  not  a  few,  who  spared  them- 
selves the  trouble  of  making  the  distinction. 

The  financial  condition  got  steadily  worse  to  the  end  of  the  war. 
I  believe  the  highest  price,  relatively,  I  ever  saw  paid,  was  for  a  pair 
of  boots.  A  cavalry  officer,  entering  the  little  country  store,  found 
there  one  pair  of  boots  which  fitted  him.  He  inquired  the  price. 
"Two  hundred  dollars,"  said  the  merchant.  A  five  hundred  dollar 
bill  was  offered,  but  the  merchant  having  no  smaller  bills,  could  not 
change  it.  "Never  mind,"  said  the  cavalier,  "I'll  take  the  boots 
anyhow.  Keep  the  change;  I  never  let  a  little  matter  of  three 
hundred  dollars  stand  in  the  way  of  a  trade." 

Will  the  reader  believe  that  with  gold  at  a  hundred  and  twenty- 
five  for  one,  or  12,400  per  cent  premium;  when  every  day  made  the 
hopelessness  of  the  struggle  more  apparent;  when  our  last  man  was 
in  the  field;  when  the  resources  of  the  country  were  visibly  at  an  end, 
there  were  financial  theorists  who  honestly  believed  that  by  a  mere 
trick  of  legislation  the  currency  could  be  brought  back  to  par  ?  J 
heard  some  of  these  people  explain  ihcir  plan  during  a  two  days'  stay 
in  Richmond.  Gold,  they  said,  is  an  inconvenient  currency  always, 
and  nobody  wants  it,  excejjt  as  a  basis.  The  government  has  some 
gold — several  millions,  in  fact — and  if  Congress  will  only  be  bold 
enough  to  declare  the  treasury  notes  redeemable  at  i)ar  in  coin,  we 
shall  have  no  further  dilTicuky  with  our  finances.  So  long  as  notes 
are  redeemable  in  gold  at  the  option  of  the  holder,  nobody  wants 


l02 


I'RINCIPLKS  OV  MONKY  AND  BANKING 


them  redeemed.  Let  the  government  say  to  the  people,  We  will 
redeem  the  currency  whenever  you  wish,  and  nobody  except  a  few 
timid  and  un[)atriotic  peoi)le  will  care  to  change  their  convenient  for 
an  inconvenient  money.  The  gold  which  the  government  holds  will 
suffice  to  satisfy  these  timid  ones,  and  there  will  be  an  end  of  high 
prices  and  depreciated  currency.  The  government  can  then  issue  as 
much  more  currency  as  circumstances  may  make  necessary,  and 
strong  in  our  confidence  in  ourselves  we  shall  be  the  richest  people 
on  earth;  we  shall  have  created  the  untold  wealth  which  our  currency 
represents. 


99. 


A  SAMPLE  CONFEDERATE  NOTE 


TEH 


100.    REASONS   FOR  THE  ISSUE  OF  THE   GREENBACKS' 
By  WESLEY   C.   MITCHELL 

The  suspension  of  specie  payments  by  the  New  York  banks  on 
December  30,  1861,  was  immediately  followed,  of  necessity,  by  the 
suspension  of  like  payments  by  the  national  treasury,  and  on  the 
very  day  that  the  New  York  banks  suspended  specie  payments,  a 
proposal  was  made  in  Congress  that  the  United  States  resort  to  the 
issue  of  an  irredeemable  paper  currency  of  legal-tender  notes. 

The  opposition  to  the  bill  called  attention  prominently  to  the 
lessons  of  experience.  Could  it  be  shown  that  the  resort  to  an  incon- 
vertible paper  currency  had  always  been  attended  in  the  past  with 
evil  results,  a  strong  presumption  would  be  created  against  the  wis- 


•  A'dapted  from  A  History  of  the  Greenbacks,  pp.  44-66.     (The  University  of 
Chicago  Press,  1903.) 


THE  STANDARD  QUESTION:    PAPER  MONEY  163 

dom  of  a  repetition  of  the  experiment.  Consequently  rhetoric  was 
employed  to  picture  in  vivid  colors  the  unhappy  consequences  that 
had  followed  the  issue  of  paper  money  by  France  during  the  Revolu- 
tion, by  England  in  the  Napoleonic  wars,  by  Austria,  and  Turkey,  by 
Rhode  Island  in  colonial  days,  by  the  Continental  Congress  in  the 
War  of  Independence,  and  finally  by  the  Confederate  States,  then 
fairly  launched  upon  the  paper-money  policy. 

To  break  the  force  of  these  historical  parallels,  which  told  so 
heavily  against  the  bill,  its  supporters  sought  to  show  that  causes, 
which  under  different  conditions  had  led  to  depreciation,  would  not 
be  operative  in  the  case  of  the  United  States  in  1862.  Thus,  it  was 
said,  the  continental  notes  of  the  American  Revolution  dei)rcciated 
because  of  the  poverty  of  the  country,  which  offered  no  security  for 
their  redemption;  the  vastly  greater  wealth  of  the  nation  in  1862 
would  prevent  a  repetition  of  the  experience.  The  depreciation  of 
the  issues  of  Louis  XIV  was  explained  on  the  ground  that  France 
was  then  exhausted  by  heavy  taxation  to  maintain  a  profligate  court. 
The  cases  of  the  French  Revolution  and  the  Confederate  States  were 
accounted  for  by  the  fact  that  these  governments  were  revolutionary. 
Some  gentlemen  even  denied  that  depreciated  currencies  had  proved 
evils.  "It  would  be  far  from  a  blunder,"  said  Senator  Howe,  "to  say 
that  the  'golden  age'  of  England  was  during  that  long  period  when 
the  only  currency  she  knew  was  one  of  irredeemable  paper";  and 
Mr.  Kellogg  declared  the  paper  issues  of  the  Revolution  had  increased 
confidence,  clothed  the  army,  and  revived  commerce.  Another  sup- 
porter of  the  bill  tried  to  evade  the  historical  argument  by  maintaining 
that  the  true  lesson  of  experience  was  that  of  moderate  issues.  But 
no  one  seems  to  have  taken  these  ingenious  pleas  very  seriously,  for 
it  was  easy  to  show  that  one  of  the  striking  lessons  of  experiments 
with  paper  money  is  that  such  moderation,  which  the  issuer  at  first 
intends  to  observe,  has  almost  invariably  been  soon  forgotten. 

If  the  argument  from  experience  was  strongly  against  the  bill, 
the  cognate  economic  argument  was  hardly  less  so.  The  opponents  of 
paper  issues  assumed  the  offensive,  declaring  emphatically  that  Uie 
proposed  legal-tender  notes  were  certain  to  depreciate  in  value. 
Mr.  Lovejoy  said:  "It  is  not  in  the  power  of  this  Congress  .... 
to  accomplish  an  impossibility  in  making  something  out  of  nothing. 
The  piece  of  paper  you  stamp  as  five  dollars  is  not  five  dollars,  and 
it  never  will  be,  unless  it  is  convertible  into  a  five  dollar  gold  piece; 
and  to  profess  that  it  is,  is  simply  a  delusion  and  a  fallacy." 


l64  PRINCIPLES  OF  MONEY  AND  BANKING 

Various  shifts  were  tried  to  meet  this  attack.  Mr.  Kellogg  boldly 
asserted  that  the  legal-tender  quality  of  the  notes  would  prevent 
fluctuation  of  their  value;  but  more  faith  was  put  in  the  reply  that 
the  total  wealth  of  the  country  was  security  for  the  notes,  and  this 
security  being  ample  the  value  of  the  paper  would  not  decline.  The 
rejoinder  to  this  was  first,  that  the  security  for  the  notes  was  not  the 
total  wealth  of  the  people,  but  only  such  part  of  it  as  the  government 
could  obtain  by  taxation;  and  second,  that  though  the  security  for 
ultimate  redemption  might  be  ample,  the  notes  would  nevertheless 
depreciate  in  value,  if  the  holders  were  unable  to  secure  immediate 
payment. 

A  different  argument  to  show  the  improbability  of  depreciation 
was  based  by  Thaddeus  Stevens  upon  the  quantity  theory  of  money 
as  expounded  by  McCulloch.  "The  value  of  legal-tender  notes," 
said  he,  "depends  on  the  amount  issued  compared  with  the  business 
of  the  country.  If  a  less  quantity  were  issued  than  the  usual  and 
needed  circulation,  they  would  be  more  valuable  than  gold."  The 
opponents  of  the  bill  replied,  not  by  attacking  the  quantity  theory,  but 
by  insisting  that  all  experience  showed  that,  after  one  issue  of  paper 
money  had  been  made,  other  issues  were  sure  to  follow,  until  the 
currency  became  redundant  and  depreciated.  "The  experience  of 
mankind,"  said  Mr.  Thomas,  "shows  the  danger  of  entering  upon 
this  path;  that  boundaries  are  fixed  only  to  be  overrun;  promises 
made  only  to  be  broken."  "The  same  necessity,"  added  Mr.  Pomeroy, 
"which  now  requires  the  amount  of  inconvertible  paper  now  author- 
ized, will  require  sixty  days  hence  a  similar  issue,  and  then  another, 
each  one  requiring  a  larger  nominal  amount  to  represent  the  same 
intrinsic  value."  To  such  assertions,  backed  by  the  weight  of  his- 
torical evidence,  the  supporters  of  the  bill  could  respond  only  that 
the  case  of  the  United  States  would  be  an  exception;  the  American 
government  would  not  yield,  as  other  governments  had  done,  to  the 
temptation  to  make  further  issues. 

Not  content  with  showing  the  economic  evils  of  a  depreciated 
paper  currency,  the  opponents  of  the  bill  denounced  it  roundly  as 
immoral.  To  pay  contractors  and  soldiers  in  depreciated  money, 
they  declared,  was  dishonorable.  "The  bill  says  to  the  world," 
asserted  Mv.  Horton,  "that  we  are  bankrupt,  and  we  are  not  only 
weak,  but  we  are  not  honest."  The  injustice,  however,  extended  not 
only  to  creditors  of  the  government,  but  to  all  persons  who  would 
be  compelled  to  accept  in  payment  money  of  less  value  than  that 


THE  STANDARD  QUESTION:   PAPER  MONEY  165 

which  they  had  contracted  to  receive.  And  by  thus  encouraging  the 
debtor  to  defraud  his  creditor,  urged  Senator  Fessenden,  the  bill 
would  lower  the  moral  standards  of  the  people.  To  these  charges, 
also,  the  promoters  of  the  bill  had  Httle  to  say. 

Upon  the  fiscal  aspect  of  the  bill  the  case  of  the  opposition  was 
hardly  less  clear.  First,  they  declared,  the  resort  to  an  irredeemable 
paper  currency  was  a  practical  confession  of  bankruptcy,  and  would 
therefore  injure  the  credit  of  the  government,  and  make  less  favorable 
the  conditions  on  which  it  could  borrow.  "We  ....  go  out  to  the 
country,"  said  Fessenden,  "with  the  declaration  that  we  are  unable 
to  pay  or  borrow  at  the  present  time,  and  such  a  confession  is  not 
likely  to  increase  our  credit."  Second,  it  was  pointed  out  that  the 
depreciation  of  the  currency  would  cause  the  prices  of  everything 
which  the  government  had  to  buy  to  rise,  and  thus  would  vastly  in- 
crease the  cost  of  the  war.  As  Senator  Cowan  put  it,  the  government 
"might  as  well  lose  25  per  cent  on  the  sale  of  her  bonds,  as  to  be  obliged, 
in  avoiding  it,  to  pay  25  per  cent  more  for  everything  she  buys." 

This  discussion  of  the  legal-tender  paper  currency  produced  in 
Congress  the  feeling  that  under  ordinary  circumstances  such  a  pro- 
posal would  be  indefensible.  The  vigor  with  which  the  opposition 
had  presented  the  case  against  the  bill  made  a  deep  impression.  On 
the  other  hand,  the  reasoning  by  which  the  supporters  of  the  bill  had 
sought  to  establish  the  constitutional  power  of  Congress  to  make 
treasury  notes  a  legal  tender  was  felt  to  be  inconclusive.  The  force 
of  the  telling  argument  from  experience  had  not  been  broken;  the 
probability  of  depreciation  had  not  been  disproved;  no  adequate 
reply  had  been  found  to  the  indictment  of  the  bill  on  moral  grounds; 
and,  finally,  it  had  not  been  denied  that  resort  to  paper  issues  would 
injure  the  credit  of  the  government  and  increase  the  cost  of  the  war. 
So  generally  was  the  objectionable  character  of  the  measure  realized 
hat  Senator  Fessenden  could  say:  "All  the  opinions  that  I  have 
heard  expressed  agree  in  this:  that  only  with  extreme  reluctance, 
only  with  fear  and  trembling  as  to  the  consequences,  can  we  have 
recourse  to  a  measure  like  this  of  making  our  paper  a  legal  tender  in 
payment  of  debts." 

And  yet  an  argument  was  found  that  overcame  the  "extreme 
reluctance"  of  a  majority  of  the  members  and  induced  tliem  to  vote 
for  the  bill.  This  argument  was  the  plea  of  absolute  necessitv.  It 
was  to  necessity  that  Mr.  Spaulding  had  appealed  in  justification  of  his 
first  draft  of  the  legal-tender  bill.    In  opening  the  debate  in  Congress 


l06  PRINCri'LKS  OF  MONEY  AND  IJANKINC; 

he  repeated  the  argument  with  emphasis.  "The  hill  before  us," 
he  said,  "is  a  war  measure,  a  measure  of  necessity  and  not  of  choice, 
presented  ....  to  meet  the  most  pressing  demands  upon  the  Treas- 
ury." The  cry  of  necessity  was  taken  up  by  the  other  supporters  of 
the  bill,  who  relied  upon  it  to  meet  all  the  objections  urged  by  the 
opposition. 

That  the  assertion  of  necessity  might  carry  the  added  force  of 
official  sanction.  Secretary  Chase  was  induced  to  send  a  note  to  the 
chairman  of  the  Committee  on  Ways  and  Means  to  be  read  to  the 
House.  He  wrote:  "I  have  felt,  nor  do  I  wish  to  conceal  that  I  now 
feel,  a  great  aversion  to  making  anything  but  coin  a  legal  tender  in 
payment  of  debts.  It  has  been  my  anxious  wish  to  avoid  the  necessity 
of  such  legislation.  It  is,  however,  at  present  impossible,  in  conse- 
quence of  the  large  expenditures  entailed  by  the  war,  and  the  suspen- 
sion of  the  banks,  to  procure  sufiicient  coin  for  disbursements,  and  it 
has  therefore  become  indispensably  necessary  that  we  should  resort 
to  the  issue  of  United  States  notes." 

This  letter  made  the  bill  an  "administration  measure,"  and  so 
was  an  important  factor  in  its  success. 

In  replying  to  the  plea  of  necessity,  the  opposition  candidly  ad- 
mitted it  would  be  better  to  issue  a  forced  currency  than  to  stop 
payment,  provided  there  were  no  alternative.  "If  the  necessity 
exists,"  said  Senator  Fessenden,  "I  have  no  hesitation  upon  the 
subject  and  shall  have  none.  If  there  is  nothing  left  for  us  to  do  but 
that,  and  that  will  effect  the  object,  I  am  perfectly  willing  to  do  that." 
But  that  such  was  the  case  was  emphatically  denied.  "It  has  been 
asserted  ....  with  the  utmost  apparent  sincerity,"  said  Mr.  Horton, 
"that  this  is  a  measure  not  of  choice,  but  of  necessity.  But  Mr. 
Chairman,  that  assertion  is  only  reiterated,  not  proved.  Where  is 
the  proof  that  this  is  a  matter  of  necessity?  There  may  be  proofs 
abundant,  but  they  have  not  been  produced." 

Not  only  did  the  opposition  deny  the  necessity,  but  they  were 
ready  also  with  suggestions  of  other  means  of  securing  the  needed 
funds.  One  suggestion  was  adequate  war  taxation.  "Not  a  dollar 
of  tax  has  been  raised,"  said  Mr.  Thomas,  "and  yet  w^e  are  talking  of 
national  bankruptcy,  and  launching  upon  a  paper  currency.  I  may 
be  very  dull,  but  I  cannot  see  the  necessity,  or  the  wisdom,  of  such  a 
course."  It  was  by  this  time  generally  acknowledged  that  the 
omission  to  impose  heavy  taxes  at  the  extra  session  of  July,  iS6i, 
was  a  serious  blunder  which  Congress  should  repair  as  soon  as  possible. 


THE  STANDARD  QUESTION:  PAPER  MONEY  167 

But  the  supporters  of  the  bill  argued  that  the  pending  situation  could 
not  be  met  by  taxation,  for  the  needs  of  the  treasury  were  too  pressing 
to  wait  until  new  taxes  could  be  assessed  and  collected. 

To  this  the  rejoinder  was  made:  If  it  will  take  too  long  to  wait 
for  the  proceeds  of  taxes,  let  the  government  supply  its  immediate 
wants  by  selling  bonds  at  their  market  value,  and  in  the  meantime 
frame  a  permanent  system  of  taxation  that  will  yield  an  adequate 
revenue.  This  plan  was  the  same  that  the  delegation  of  bankers  had 
urged  upon  the  secretary  and  the  committee  of  Congress,  and  it 
encountered  the  same  opposition.  Senator  Howe  was  unwilling,  as 
Mr.  Spaulding  had  been,  that  government  bonds  should  be  sold  below 
par.  ''The  experience  of  half  a  century,"  said  he,  "has  demonstrated 
that  the  use  of  money  is  not  worth  more  than  6  per  cent;  that  sum 
the  Government  ought  to  pay."  Senator  Fessenden  replied:  "  Money 
in  the  market  is  always  worth  what  it  will  sell  for.  It  is  an  article  of 
merchandise  like  anything  else,  and  the  Government  has  no  reason 
to  suppose,  unless  it  can  offer  much  better  security,  that  it  should 
get  money  at  a  better  rate  than  anybody  else." 

Of  course  it  was  not  possible  without  offering  a  loan  to  determine 
precisely  at  what  rates  the  government  could  sell  its  bonds;  but  the 
opponents  of  the  bill  beheved  that  Mr.  Stevens  and  Mr.  Spaulding 
exaggerated  when  they  predicted  that  the  price  realized  would  range 
between  50  and  80.  Should  a  plan  of  finance  based  upon  taxation 
heavy  enough  to  inspire  confidence  in  the  management  of  the  treasury 
be  adopted,  they  were  convinced  that  the  government  could  secure 
loans  without  serious  sacrifice.  And  further,  their  fiscal  argument 
showed  that  an  increase  in  the  cost  of  the  war  would  not  be  avoided 
by  the  rival  plan  of  issuing  an  inconvertible  paper  currency. 

Still  a  third  alternative  was  proposed  by  the  opposition — the  issue 
of  treasury  notes  without  the  legal-tender  quality.  This  suggestion 
was  embodied  in  the  three  rival  plans  introduced  into  the  House  as 
substitutes  for  the  bill.  The  discussion  of  their  merits  naturally 
elicited  debate  upon  the  efficacy  of  the  legal-tender  clause.  The 
supporters  of  the  bill  were  ready  enough  with  assertions  of  the  im- 
portance of  the  clause  to  the  success  of  the  measure;  but  they  found 
it  difficult  to  explain  precisely  what  its  value  was.  One  said,  "By 
making  these  notes  a  legal  tender  we  prc\cnt  the  money  sharks  from 
rol:)])ing  our  soldiers  of  their  hard  earnings."  Another  argued  that 
unless  the  United  States  notes  were  made  a  legal  tender,  the  banks 
would  seek  to  depreciate  lliem  in  order  to  retain  the  field  of  circulation 


i68 


PRINCIPLES  OF  MONEY  AND  BANKING 


for  their  own  issues.  A  third  declared,  "If  we  make  the  government 
issues  a  legal  tender,  the  demand  for  specie  will  be  so  limited  that 
they  will  maintain  their  value."  Finally,  Senator  Sherman  argued 
that  the  banks  would  not  receive  the  government  notes  unless  com- 
pelled to  do  so  by  the  legal-tender  clause.  In  response  Senator 
Fessenden  pointed  to  the  clause  authorizing  the  subtreasuries  to 
receive  the  notes  on  deposit  at  5  per  cent  interest.  This  clause 
would  make  discrimination  against  the  notes  impracticable,  he  argued; 
for  should  the  banks  refuse  to  receive  notes  as  deposits  they  would 
lose  business,  because  the  holders  would  prefer  to  deposit  with  the  sub- 
treasuries,  which  would  pay  5  per  cent  interest,  instead  of  with  banks. 


loi.    FLUCTUATIONS  IN  VALUE  OF  GREENBACKS^ 
I860  18S1  1862  1863  1861  1865 


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^From  Wesley  C.  Mitchell,  A  History  of  the  Greenbacks,  p.  277.     (The  Uni- 
versity of  Chicago  Press,  1903.) 


THE  STANDARD  QUESTION:  PAPER  MONEY 


169 


102.    GREENBACKS  AND  THE  COST  OF  THE   CIVIL  WAR' 

By  WESLEY  C.  MITCHELL 

I.      THE   GREENBACKS   AND   EXPENDITURES 

It  is  a  familiar  remark  of  writers  on  public  finance  that  all  things 
required  by  government  fall  into  one  of  two  categories — commodities 
and  services.  This  elementary  distinction  regarding  the  objects  of 
government  expenditure  is  of  very  great  importance  for  the  present 
problem.  For  since  prices  advanced  in  much  greater  ratio  than 
wages,  it  is  clear  that  the  greenback  issues  must  have  increased  the 
sums  paid  for  commodities  more  than  the  sums  paid  for  labor.  Indeed, 
this  difference  between  increase  in  cost  of  commodities  and  of  labor 
seems  to  have  been  much  wider  in  the  case  of  the  government  than 
in  the  case  of  private  persons.  Clearly  then  the  first  step  in  any 
estimate  of  the  effect  of  the  legal-tender  act  upon  the  expenditures 
of  the  government  during  the  war  should  be  a  careful  separation  of 
expenditures  for  commodities  from  expenditures  for  services. 

ESTIMATED  INCREASE  IN  THE  ORDINARY  EXPENDITURES  OF  THE 

FEDERAL  GOVERNMENT  CAUSED  BY  THE  GREENBACKS 

(In  millions  of  dollars) 


Fiscal  Years 


1862 

(Six 
Months) 


1863 


1864 


1865 


1866 

(Two 

Months) 


Expenditures: 

Class  I,  salaries,  etc 

Class  II,  commodities 

Class  III,  both  labor  and  com- 
modities  

Assumed  ratio  of  increase: 

Class  II 

Class  III 

Estimated  actual  increase: 
Class  I,  increase  in  pay  of  sol- 
diers  

Class   II 

Class  III. 

Total     estimated     increase 
each  year 


92 

82 


3% 
3% 


242 

214 

238 

37% 
27% 


S8 
51 

109 


259 

258 

294 

56% 
44% 


6 
93 
90 

189 


408 

402 

405 

102% 
77% 


62 
203 
176 

441 


45 
43 

44 

43% 
49% 


20 
13 
14 

47 


There  are  many  dinicuUics  in  the  construction  of  an  accurate 
table  showing  the  effect  of  the  greenbacks  upon  the  expenditures  for 

■  Adapted  from  A  History  of  the  Greenbacks,  pp.  406-19.    (The  University  of 
Chicago  Press,  1903.) 


170 


PRINCIPLES  OF  MONEY  AND  BANKING 


various  classes  of  commodities  and  services;  but  the  table  on  p.  169 
is  the  best  representation  of  the  situation  that  can  be  given.  The 
total  increase  for  the  whole  period  is  roughly  $791,000,000. 


II.      THE   GREENBACKS   AND  RECEIPTS 

Of  the  government  receipts  during  the  war  some  sources  were 
unaffected,  while  with  others  the  depreciated  currency  gave  rise  to 
an  increase  of  revenue  for  the  government.  Under  the  provisions 
of  the  first  legal-tender  act  customs  duties  were  paid  in  gold,  and 
the  ad  valorem  duties  were  assessed  on  the  foreign  specie  valua- 
tion of  goods.  The  receipts  from  this  source  therefore  remained 
on  substantially  the  same  footing  as  if  specie  payments  had  been 
maintained.  The  receipts  from  direct  taxes  were  all  collected  under 
one  law  passed  six  months  before  suspension.  This  law  fixed  the 
total  amount  of  the  tax  at  $20,000,000  and  determined  the  precise 
amount  to  be  raised  by  each  state.  Accordingly  the  legal-tender 
acts  had  no  effect  upon  this  item — except  that  the  states  were 

ESTIMATED  INCREASE  IN  THE  ORDINARY  RECEIPTS  OF  THE 
FEDERAL  GOVERNMENT  CAUSED  BY  THE  GREENBACKS 

(In  millions  of  dollars) 


Fiscal  Year 
1862  (Six 
Months) 

Fiscal  Year 
1863 

Fiscal  Year 
1864 

Fiscal  Year 
i86s 

Fiscal  Year 
1866  (Two 
Months) 

Current  receipts: 

From  customs 

33-5 

.1 

1.8 

•5 

69.  I 
.2 

1-5 

30 

37-6 

102.3 
.6 
•5 

47-5 
109.7 

84.9 
I  .0 
1.2 

330 
209.5 

313 

.1 

^           .0 

From  sales  of  public  lands 
From  direct  tax 

From    miscellaneous 
sources 

12.3 

64.4 

From  internal  revenue .  .  . 

Assumed  ratios  of  increase . 
Estimated  actual  increase .  . 

35  9 
3% 
.0 

III  .4 

37% 
10.0 

260.6 
56% 
390 

329.6 
102% 
106.0 

108. 1 

43% 
19.0 

enabled  to  pay  their  quotas  in  greenbacks  instead  of  in  gold.  The 
revenue  derived  from  miscellaneous  sources  includes  a  considerable 
number  of  small  items.  Of  these,  some  were  doubtless  increased  by 
depreciation,  e.g.,  proceeds  of  sales  of  captured  and  abandoned  prop- 
erty. Other  items  were  unaffected,  e.g.,  receipts  of  fees  by  American 
consuls  abroad.  Premiums  on  sales  of  gold  coin  may  be  set  down 
from  the  present  point  of  view  as  clear  gain. 


THE  STANDARD  QUESTION:  PAPER  MONEY  171 

The  internal-revenue  system  of  taxation  was  inaugurated  by  an 
elaborate  law  passed  July  i,  1862,  which  imposed  certain  duties, 
partly  ad  valorem,  partly  specific,  upon  a  great  variety  of  manufac- 
tured articles.  Two  years  later  another  act  raised  the  rates  of 
taxation  and  increased  the  number  of  articles  made  to  pay  duties. 

At  the  time  the  first  law  was  passed  the  depreciation  of  the  cur- 
rency was  not  great,  and  probably  the  rates  of  taxation  imposed  do 
not  differ  much  from  what  they  would  have  been  upon  a  specie  basis. 
But  without  any  modification  of  the  terms  of  the  law,  the  progressive 
rise  of  prices  must  have  caused  an  increase  of  the  revenue  from  ad 
valorem  duties,  and  from  taxes  on  gross  receipts  and  upon  incomes. 
Receipts  from  specific  duties,  Hcenses,  etc.,  however,  probablv  did 
not  increase  except  as  changes  were  made  in  the  law  or  in  its  admin- 
istration. 

The  table  shows  the  increase  of  receipts  to  be  roughly  $174,000,000. 

III.      THE      GREENBACKS   AND   INDIRECT   COSTS 

It  is  probable  that  not  a  little  of  the  lavishness  with  which  public 
funds  were  appropriated  by  Congress  during  the  war  can  be  traced 
to  the  paper-money  policy.  At  least  such  was  the  opinion  of  a  man 
so  well  placed  to  observe  the  operations  of  the  treasury  as  Hugh 
McCulIoch.  In  his  report  of  1867  he  said:  '"As  long  as  notes  could 
be  issued  and  bonds  could  be  sold  at  a  premium  or  at  par,  for  what 
the  statute  made  money,  there  was  a  constant  temptation  to  liberal, 
if  not  unnecessary,  expenditures.  Had  the  specie  standard  been 
maintained  and  bonds  been  sold  at  a  discount  for  real  money,  there 
would  have  been  an  economy  in  all  branches  of  the  public  service 
which  unfortunately  was  not  witnessed." 

If  the  paper  currency  tempted  the  government  to  reckless  expen- 
ditures, it  also  predisposed  the  people  to  submit  more  willingly  to 
heavy  taxation.  The  advance  of  money  wages  and  of  money  prices 
made  most  people  feel  wealthier,  and,  feeling  wealthier,  they  were 
less  inclined  to  grumble  over  the  taxes.  But  while  the  feeling  of 
prosperity  may  have  been  instrumental  in  procuring  a  cheerful 
acceptance  of  war  taxes,  it  is  very  doubtful  whether  the  net  effect 
of  the  paper-money  system  was  favorable  to  revenue. 

IV.   THE  GREENBACKS  AND  THE  PUBLIC  DEBT 

The  resort  to  a  legal-tender  paper  currency,  one  may  argue,  is  a  con- 
fession of  acute  financial  distress  and  as  such  must  depress  the  market 


172  PRINCIPLES  OF  MONEY  AND  BANKING 

for  bonds.  Therefore,  to  the  financial  loss  caused  by  the  increase  of 
expenditures  should  be  added  a  second  loss  from  the  unfavorable 
terms  to  which  the  government  had  to  submit  in  selling  its  securities. 

Of  course,  it  is  true  that  the  secretaries  of  the  treasury  in  their 
efforts  to  borrow  money  were  obliged  to  agree  to  some  very  hard 
bargains.  There  was  little  ground  for  exultation  over  the  sale  at 
par  of  bonds  bearing  interest  at  5  or  6  per  cent  in  gold  when  the 
currency  received  from  purchasers  was  worth  in  specie  but  50  per 
cent  of  its  face  value.  But  this  loss  arising  from  the  difference  in 
value  between  the  paper  dollars  received  by  the  treasury  for  bonds 
and  the  specie  dollars  which  the  treasury  contracted  to  pay  bond- 
holders after  a  term  of  years  is  not  a  further  loss  in  addition  to  the 
losses  discussed  in  the  preceding  sections,  but  rather  these  same  losses 
looked  at  from  another  point  of  view.  For  the  estimate  of  the  in- 
crease of  expenditures  above  receipts,  and  therefore  of  debt  contracted, 
rests  precisely  upon  the  decline  in  the  value  of  the  paper  dollar  from 
the  specie  standard.  One  may  arrive  at  an  estimate  of  the  loss  either 
by  computing  the  increase  in  the  number  of  dollars  that  had  to  be 
borrowed  in  paper  money  to  be  repaid  in  gold,  or  by  estimating  the 
decline  in  the  specie  value  of  the  paper  money  raised  by  the  sale  of 
bonds;  but  to  make  estimates  by  both  of  these  methods  would  be 
to  include  two  guesses  at  the  same  item. 

It  is  true  that,  had  gold  bonds  been  sold  largely  at  less  than  par 
for  paper  money,  a  second  loss  would  have  been  incurred  from  the 
discount  in  addition  to  the  loss  from  the  smaller  purchasing  power  of 
the  currency  received.  But,  as  a  matter  of  fact,  the  deviation  from 
par  in  the  subscription  prices  for  bonds  was  not  of  great  importance. 
The  prices  of  government  securities  did  not  fluctuate  very  widely 
during  the  war,  for  the  very  good  reason  that  these  prices  showed 
merely  the  value  of  one  set  of  government  promises  to  pay — viz., 
bonds,  in  terms  of  another  set — viz.,  greenbacks.  Most  factors  that 
affected  the  credit  of  the  government  would  affect  the  specie  value 
.of  all  its  promises  in  much  the  same  manner,  and  therefore  would  not 
alter  materially  the  ratio  of  one  to  another. 

It  remains  only  to  say  a  word  about  the  effect  of  the  legal-tender 
acts  upon  the  interest  charge  borne  by  the  government.  The  great 
financial  argument  in  favor  of  the  greenbacks  has  always  been  that 
they  constitute  a  "loan  without  interest."  But  against  the  saving 
of  interest  effected  by  issuing  greenbacks  instead  of  selling  bonds 
should  be  put  down  the  loss  of  interest  on  the  increase  of  debt  arising 


THE  STANDARD  QUESTION:   PAPER  MONEY  173 

from  the  augmentation  of  expenditures.  If  the  rate  of  interest  be 
taken  at  6  per  cent,  a  simple  calculation  shows  that  the  interest 
saved  by  the  greenbacks  up  to  August  31,  1865,  was  but  $28,000,000 
greater  than  the  interest  loss  through  the  excess  of  increase  of 
expenditures  over  the  increase  of  receipts  as  shown  by  tables.  By 
the  end  of  this  period  the  augmentation  of  debt  caused  by  the 
greenbacks  had  apparently  become  greater  than  the  volume  of  green- 
backs in  circulation,  so  that  from  this  time  forward  the  annual  loss 
of  interest  probably  exceeded  the  gain. 

V.      CONCLUSION 

The  public  debt  reached  its  maximum  amount  August  31,  1865, 
when  it  stood  at  $2,846,000,000.  Of  this  immense  debt  the  preceding 
estimates  indicate  that  some  $589,000,000,  or  rather  more  than  a 
fifth  of  the  whole  amount,  was  due  to  the  substitution  of  United 
States  notes  for  metallic  money.  Little  as  these  estimates  can  pre- 
tend to  accuracy,  it  seems  safe  at  least  to  accept  the  conclusion  that 
the  greenbacks  increased  the  debt  incurred  during  the  war  by  a  sum 
running  into  the  hundreds  of  millions.  If  so,  it  follows  that,  even 
from  the  narrowly  financial  point  of  view  of  their  sponsors,  the  legal- 
tender  acts  had  singularly  unfortunate  consequences. 

103.   EFFECTS  OF  GREENBACKS  ON  CREDIT  TRANSACTIONS' 
By  JOSEPH  J.   KLEIN 

In  an  address  on  "  Character  and  Credit,"  delivered  shortly  after 
the  close  of  the  Civil  War,  Mr.  Edward  D.  Page  stated  that  the  long 
credits  which  existed  before  the  war  could  not  be  continued  because 
of  the  doubts  that  existed  in  consequence  of  a  fluctuating  standard. 
Horace  Greeley,  writing  his  Essays  on  Political  Economy  sometime 
before  1869,  confirms  the  statements  of  Mr.  Page.  He  declared  that 
our  internal  credit  system  had  broken  dowTi,  and  rural  traders,  no 
longer  able  to  replenish  their  stocks  on  credit,  bought  little  or  nothing. 
A  gentleman  who  was  in  the  dry-goods  business  at  the  time  states 
that  "during  the  war  everything  was  on  a  cash  basis,  on  account  of 
uncertainty."  An  actuary  recalled  that  the  usual  terms  during  the 
period  were  cash  or  thirty  days. 

The  Commercial  ami  Financial  Chronicle,  on  September  9,  1865, 
published  an  authoritative  editorial,  "The  Present  State  of  Trade 

'Adapted  from  "The  Development  of  Mercantile  Instruments  of  Credit," 
Journal  of  AccomUancy,  XIII  (1912),  45-46. 


174  PRINCIPLES  OF  MONEY  AND  BANKING 

and  Credit,"  wherein  we  find  exactly  the  information  sought  as  a 
result  of  "careful  inquiry"  regarding  the  buyers  from  the  South  and 
the  West.  Most  jobbing  sales  were  made  on  "short"  time,  from 
sixty  days  to  four  months,  but  if  settled  within  thirty  days  from  date 
a  discount  of  i  per  cent  per  month  was  allowed,  including  interest  for 
the  first  thirty  days.  Inasmuch  as  most  bills  were  anticipated  because 
of  these  favorable  terms,  very  little  credit  was  either  "asked  or  given." 
Continuing  from  the  same  source,  we  learn  that  the  continued 
rise  in  prices  because  of  the  volume  of  currency  in  circulation  has 
made  money  so  plentiful  that  even  the  retail  merchants  can  and  do 
buy  for  cash.  "Very  little  paper  is  being  made,"  and  it  is  on  short-time 
periods  only.  Industry  has  not  kept  pace  with  the  demand,  therefore 
buyers  are  more  anxious  to  secure  goods  than  are  the  sellers  to  dispose 
of  them,  which  is  another  reason  why  long  credit  is  not  in  vogue. 
"To  be  sure,"  old  customers  can  still  get  the  one-time  fashionable 
six  months,  but  a  few  only  avail  themselves  of  this  privilege.  About 
one-half  of  the  buyers  pay  cash,  and  the  rest  "average  less  than  three 
months'  credit,  while  only  a  few  obtain  six  to  eight  months." 

104.    PAPER  MONEY  AND   SUBSIDIARY   CURRENCY' 
By  ROLAND   P.   FALKNER 

When,  through  the  blighting  influence  of  a  forced  circulation  of 
paper  money,  silver,  as  well  as  gold,  disappears  from  the  monetary 
circulation,  there  is  left  a  distressing  vacancy  which  is  not  immediately 
filled.  The  circulation  of  silver,  the  small  change  of  ever>'day  life, 
affects  the  whole  people,  and  the  inability  to  secure  change  and  make 
change  causes  ceaseless  vexation.  Sweep  out  of  existence  all  denomi- 
nations of  currency  between  the  cent  and  the  dollar  and  try  to  imagine 
how  the  affairs  of  everyday  life  would  be  hampered  and  checked  at 
every  turn.  Petty  commerce  would  be  at  a  standstill.  The  retail 
dealer  would  have  to  refuse  his  customer  or  give  him  credit,  unless 
the  latter  should  be  willing  to  purchase  vastly  more  than  he  would 
need.  The  payment  of  labourers  would  become  a  serious  daily  or 
weekly  trial  for  the  employer.  In  actual  experience  there  has  never 
been  such  a  complete  absence  of  small  change,  but  there  have  been 
times  of  great  scarcity,  marked  by  all  the  phenomena  described. 

There  are  two  measures  of  relief  which  have  been  applied  in  such  a 
predicament,  often  concurrently.    One  is  the  issue  of  paper  substi- 

■  Adapted  from  "  The  Private  Issue  of  Token  Coins,"  Political  Science  Quarterly, 
XVI  (1901),  pp.  305-27. 


THE  STANDARD  QUESTION:   PAPER  MONEY  175 

tutes — e.g.,  our  own  fractional  currency;  the  other,  the  abundant 
issue  of  copper  coins — e.g.,  so  that  twelve  pennies  may  do  the  work 
of  a  shilling.  If  the  crisis  is  prolonged  the  government  sooner  or  later 
steps  in  to  give  relief  in  one  of  these  ways  or  both.  But  the  need  brooks 
no  delay,  and  it  frequently  happens  that  before  the  slow  machinery 
of  the  government  is  set  in  motion  private  persons  seek  relief  in  the 
unauthorized  issue  of  both  notes  and  coin  to  meet  the  emergency. 

In  the  United  States  resort  has  been  made  to  tokens  at  various 
times.  During  the  suspension  of  specie  payments  in  181 2  and  in 
1837,  large  quantities  were  issued.  Few  of  these  ''shinplasters" 
have  been  preserved;  but  the  historians  tell  us  that  they  were  in 
universal  use  and,  if  we  consider  the  circumstances  of  their  issue,  we 
may  well  believe  that  it  was  so.  In  the  })anic  of  1837  some  relief  was 
sought  in  the  issue  of  coppers.  Within  certain  limits,  such  coins  in 
sufficient  quantities  are  capable  of  being  a  substitute  for  small  silver. 
Some  of  these  private  copper  coins  ha\-e  been  preserved.  Numis- 
matists enumerate  some  164  varieties  of  such  coins  from  the  Jack- 
sonian  epoch.  In  diameter  and  thickness  they  correspond  to  the 
large  copper  cent  then  in  use. 

Of  the  coins  described  by  the  numismatist,  some  ninety-three  are 
what  are  designated  as  shop  cards.  These  were  issued  by  merchants 
and  others,  partly  as  advertisements,  partly  to  supply  the  great  need 
of  small  change.  Some  of  them  bear  inscriptions,  "  For  public  accom- 
modation," and  the  like,  which  indicate  their  purpose.  On  the  other 
hand,  a  large  number  of  the  coins  of  this  period  were  used  as  vehicles 
of  political  satire  and  abuse.  The  victim  of  this  abuse  is  generally 
Jackson.  Thus,  one  coin  of  1834  bears  the  gaunt  figure  of  the  Presi- 
dent, carrying  in  one  hand  a  sword  and  in  the  other  a  money-bag, 
surrounded  by  the  words,  "A  plain  system,  void  of  pomp."  On  the 
reverse  of  the  coin  is  the  emblem  of  a  jackass  in  his  most  stubborn 
attitude,  with  the  letters  "LL.D."  on  his  haunches,  in  allusion  to 
the  degree  conferred  on  Jackson  by  Harvard  University.  Over  the 
jackass  are  the  words  "Roman  Firmness"  and  around  the  edge  the 
celebrated  words  of  Jackson,  "The  Constitution  as  I  understand  it." 
Another  coin  of  1837  bears  a  representation  of  a  turtle  carrying  on 
its  back  an  iron  safe  labelled  "Sub-treasury,"  while  beneath  are  the 
words,  "Fiscal  agent"  and  around  the  coin,  "Executive  experiment." 
The  reverse  of  this  coin  has  a  jackass  running,  and  tlie  words  from 
Van  Buren's  inaugural,  "I  follow  in  the  steps  of  my  illustrious  prede- 
cessor."   The  contest  over  the  Bank  is  shown  in  two  contrasted  coins 


176  PRINCIPLES  OF  MONEY  AND  BANKING 

of  tills  period.  One  bears  a  ship  under  full  sail,  labelled  "  Constitu- 
tion," and  around  it  the  words,  "Webster,  credit  currency,  1840"; 
while  the  other  shows  a  ship  labelled  "Experiment,"  struck  by  light- 
ning and  foundering  in  the  waves,  with  the  inscription,  "Van  Buren, 
metallic  currency,  1837."  A  few  of  the  coins  are  laudatory  of  Jackson 
and  his  party,  but  the  greater  number  contain  expressions  of  abuse 
and  ridicule.  A  full  list  of  these  coins,  with  appropriate  explanations, 
would  form  a  complete  exposition  of  the  political  controversies  of  the 
day;  for  among  them  we  fmd  references  to  the  Bank,  the  suspension 
of  specie  payments,  Benton's  "mint-drops,"  slavery  and  kindred 
subjects  of  contemporary  interest.  The  strong  political  bias  of  these 
coins  leads  us  to  doubt  whether  their  circulation  as  money  was  as 
general  as  that  of  the  neutral  merchant  tokens.  They  are  none  the 
less  a  curious  monument  alike  of  the  bitterness  of  political  strife  and 
of  the  disorders  of  the  currency. 

Again  during  the  Civil  War  the  depreciation  of  the  greenbacks 
soon  drove  the  subsidiary  silver  from  circulation  and  compelled  a 
resort  to  cheap  substitutes  and  tokens.  To  mitigate  this  evil  a  law 
was  enacted  July  17,  1862,  authorizing  the  secretary  of  the  treasury 
to  issue  stamps  to  be  exchanged  for  United  States  notes.  Private 
issues  were  prohibited  in  the  most  explicit  terms. 

This  law  was  commonly  understood  to  authorize  the  use  of  postage 
stamps,  and  its  first  effect  was  a  run  upon  the  post-office  for  stamps. 
The  postmaster-general  reported  that  in  the  third  quarter  of  1862 
the  receipts  from  the  sale  of  stamps  in  twenty-nine  of  the  larger  post- 
offices  exceeded  by  $794,340.08  the  receipts  in  the  corresponding 
quarter  of  1861.  This  excess  was,  in  fact,  greater  than  the  total  sales 
in  the  third  quarter  of  1861.  In  New  York  City  alone  the  excess 
was  $425,296.  Even  at  this  rate  the  post-office  department  did  not 
supply  half  the  quantity  demanded.  Such  a  sudden  and  unusual 
demand  greatly  embarrassed  the  postal  authorities  and  led  to  orders 
from  headquarters  to  refuse  to  sell  stamps  wherever  there  was  reason 
to  believe  they  were  not  to  be  used  for  postal  purposes.  The  adhesi\'e 
stamps  of  the  post-office  were  an  awkward  makeshift  as  currency. 
They  cracked  easily,  and  when  they  grew  dirty  could  not  be  used  for 
their  original  purposes.  Frequently  the  mucilage  was  washed  off  or 
they  were  pasted  upon  strips  of  cardboard.  In  some  cases  they  were 
encased  in  metal,  and  I  have  seen  one  with  the  face  protected  by  a 
piece  of  mica  and  bearing  on  the  back  an  ingenious  advertisement. 


THE  STANDARD  QUESTION:   PAPER  MONEY  177 

The  unfilness  of  the  postage  stamps  for  currency  led  the  secretary 
of  the  treasury  to  substitute  small  notes  for  them.  As  these  notes 
bore  for  each  denomination  a  representation  of  the  postage  stamp  of 
the  same  value,  they  were  known  as  postage  currency.  In  December, 
1862,  he  reported  that  it  had  been  found  impossible  to  keep  pace  with 
the  public  demand,  though  the  daily  issue  was  $100,000  and  was  being 
rapidly  increased  to  twice  that  amount.  Yet  at  the  time  of  preparing 
his  report  the  aggregate  issue  had  reached  only  $3,884,000,  and  to 
meet  the  imperious  needs  of  the  trading  public  the  issue  was  too 
slow.  In  March,  1863,  fractional  notes  were  authorized  to  the  extent 
of  $50,000,000.  They  were  to  take  the  place  of  the  postage  currency, 
but  by  June  30,  1863,  none  had  been  issued,  though  the  postage  notes 
then  amounted  to  $20,192,456.  It  would  appear  that  this  sum  really 
met  the  needs  of  the  time,  for  it  was  only  gradually  increased,  though 
as  time  went  on  the  fractional  currency  took  the  place  of  the  postage 
issues.  The  combined  issues  as  late  as  June  30,  1866,  amounted  to 
not  more  than  $27,070,876. 

If  by  the  close  of  1863  the  government  had  succeeded  in  supplying 
the  need  of  small  currency,  the  same  was  not  true  in  the  early  months 
of  that  year,  which,  despite  the  prohibitions  of  the  law,  showed  a 
remarkable  crop  of  "  shinplasters  "  and  copper  tokens.  The  issue  of 
the  latter  began  in  the  fall  of  1862  and  reached  its  height  in  the  early 
part  of  1863.  The  Coin  Collectors^  Journal  for  1876  mentions  about 
5,000  varieties. 

The  coins  are  in  general  nearly  of  the  diameter  and  thickness  of 
the  small  cents  then  in  use,  though  a  few  are  larger  and  approximate 
the  general  appearance  of  the  older  copper  cents.  By  far  the  greater 
number  are  of  copper  slightly  alloyed,  though  a  small  number  are  of  a 
composition  which  in  its  appearance  is  not  unlike  that  of  the  nickel 
cent  of  1857.  With  regard  to  the  inscriptions,  we  may  distinguish 
broadly  between  tradesmen's  tokens  and  general  tokens,  using  the 
former  term  to  designate  such  coins  as  bore  some  evidence  of  their 
origin.  I  find  in  a  small  collection  ten  out  of  a  total  of  thirty-five 
which  contain  a  direct  promise  to  redeem  the  coins,  sometimes  in  bills 
but  more  generally  without  specification  of  the  mode  of  redemption. 
On  the  other  hand,  twenty-live  coins  contain  only  the  name  of  the 
dealer.  While  one  side  bears  the  name  of  the  dealer,  the  other  gen- 
erally bears  some  patriotic  emblem  or  inscription.  The  most  frequent 
of  these  is  the  Indian's  head  which  figured  on  the  legal  cent  after  1859. 


178  PRINCIPLKS  OF  MONEY  AND  BANKING 

Looking  at  this  side  of  the  coin,  one  would  suppose  that  he  was  han- 
dling an  ordinary  cent.  Heads  of  liberty,  recalling  the  former  cents, 
flags,  shields,  and  the  like  are  also  seen.  Sentiments,  such  as  "Liberty 
and  Union,"  "Union  forever,"  are  not  infrequent;  while  an  ingenious 
miller  of  Albany,  N.Y.,  seems  to  mix  patriotism  and  business  by  the 
inscription  "Union  Flour,"  and  the  People's  Line  of  Steamers  holds 
strictly  to  business  by  placing  on  the  coin  the  time-table  of  the  line. 
Doubtless  these  tokens  involved  a  profit  to  the  issuer  and  a  loss  to  the 
public.  Yet  the  fact  that  the  issuers  placed  their  names  upon  the 
coins  seems  to  indicate  that  redemption  was  at  least  contemplated. 

In  the  large  collection  mentioned  above  are  enumerated  as  many 
as  848  varieties  of  the  general  tokens.  Since  in  the  absence  of  the 
trader's  name  two  sides  of  the  coin  had  to  be  inscribed,  a  greater 
scope  for  the  exercise  of  ingenuity  was  afforded  to  the  designer.  As 
a  rule,  the  coin  has  on  one  side  an  emblem  and  on  the  reverse  side  an 
inscription.  Perhaps  the  most  frequent  specimen  was  an  almost  exact 
imitation  of  the  legal  cent,  differing  from  that  coin  simply  by  the 
insertion  in  very  small  letters  of  the  word  "not"  above  the  words 
"one  cent."  The  Indian's  head,  either  exactly  or  nearly  reproducing 
that  on  the  legal  coin,  is  a  frequent  emblem.  We  find  used  also  the 
shield,  the  flag,  the  figure  of  liberty,  the  heads  of  Washington  and 
Jackson,  groups  of  cannon  and  arms,  monitors,  and  many  others. 
The  inscriptions  are  either  general  or  have  some  reference  to  the 
emblem  on  the  coin. 

C.     The  Aftermath  of  the  Greenbacks 
105.    A  CHRONOLOGY  OF  THE   GREENBACKS 

1.  December  18,  1865:  Secretary  McCuUoch  and  Congress 
pledged  an  early  retirement  of  the  greenbacks. 

2.  April  12,  1866:  Congress  hmited  the  retirement  to  a  total  of 
$10,000,000  for  the  next  six  months,  and  not  to  exceed  $4,000,000 
monthly  thereafter. 

3.  February  4,  1868:  Further  retirement  forbidden;  $44,000,000 
had  been  retired  in  the  interim.    Total  outstanding  then  $356,000,000. 

4.  March  3,  1869:  In  Public  Credit  act  "Congress  solemnly 
pledges  its  faith  to  make  provision  at  the  earliest  practicable  period 
for  the  redemption  of  the  United  States  notes  in  coin." 

5.'i87i  and  1872:  Secretary  Boutwell  reissued  $6,137,000  of 
retired  notes.    Shay's  criticism  soon  induced  their  retirement  again. 


THE  STANDARD  QUESTION:   PAPER  MONEY  179 

6.  March  7,  1873 — January  15,  1874:  Secretary  Richardson  re- 
issued $26,000,000  by  means  of  a  purchase  of  bonds. 

7.  April,  1874:  Congress  passed  a  bill  authorizing  reissues  until  the 
total  amount  outstanding  should  reach  $400,000,000.  Grant  vetoed 
the  bill  April  22. 

8.  June  20,  1874:  A  clause  in  a  banking  measure  fixed  the  upper 
limit  as  $382,000,000,  the  amount  then  outstanding. 

9.  January  14,  1875:  Congress  provided  that  after  January  i, 
1879,  United  States  notes  should  be  redeemed  in  coin.  In  the  mean- 
while for  every  increase  of  $ioo  in  bank-note  currency,  $So  of  green- 
backs should  be  retired. 

10.  May  21,  1878:  Forbade  any  further  cancellation  of  the  green- 
backs. When  redeemed  they  should  be  reissued  by  the  Secretary. 
The  amount  then  outstanding  was  $346,681,016. 

11.  January  i,  1879:  Greenbacks  redeemable  in  specie  on  demand. 

12.  July  12,  1882:  Congress  provided  that  when  gold  reserve  fell 
below  $100,000,000  further  issues  of  gold  certificates  should  be  sus- 
pended, thus  indirectly  recognizing  a  definite  minimum  reserve. 

13.  1894-95:  The  Government  sold  bonds  to  replenish  specie 
reserve. 

14.  March  14,  1900:  A  separate  reserve  fund  of  $150,000,000 
was  authorized,  and  adequate  powers  granted  for  maintaining  such 
reserve. 

15.  December  23,  1913:  Net  earnings  derived  by  the  United 
States  from  federal  reserve  banks  shall,  in  the  discretion  of  the  Secre- 
tary of  the  Treasury,  be  used  to  supplement  the  gold  reserve  held 
against  outstanding  United  States  notes. 

106.    THE   GREENBACK   MOVEMENT* 
By  MURRAY  S.  VVILDMAN 

The  long  experience  of  the  people  with  paper  money  in  the  form 
of  Government  notes  during  the  Civil  War  and  the  years  following 
when  the  legal-tender  "greenbacks"  constituted  the  chief  circulating 
medium,  wrought  an  important  change  in  the  popular  conceptions 
of  money. 

Money  was  said  to  consist  of  anything  which  "bore  the  stamp  of 
the  Government,"  something  that  depends  for  its  \aka'  upon  the 

'  .\dapted  from  Money  Inflation  in  the  L'nitid  Stoics,  pp.  15O-70.  (G.  P. 
Putnam's  Sons,  1905.) 


l8o  PRINCIPLES  OF  MONEY  AND  BANKING 

"faith  or  credit  of  the  nation."  This  stamp,  this  faith,  and  credit 
became  thus  the  essential  features,  whereas  before  they  had  been 
merely  incidental  features  of  money.  This  was  true  not  only  of 
greenbacks,  but  also  of  bank  notes  under  the  national  banking  system 
established  during  the  war.  Bank  notes  now  seemed  to  come  indi- 
rectly from  the  Government.  Their  value  no  longer  seemed  to  depend 
upon  the  integrity  of  the  banker  which  paid  them  out,  for  if  redeemed 
they  were  redeemed  by  the  Government  in  greenbacks. 

It  is  difficult  to  realize,  or  to  overestimate,  the  importance  of  the 
change  which  had  taken  place. 

The  action  of  the  Government  in  the  legal-tender  provision  had 
cast  a  veil  over  the  economic  situation  and  concealed  its  true  character. 
In  this  adaptation  of  the  popular  mind  to  the  new  situation  we  have 
a  good  example  of  the  estabhshment  of  an  institution  by  implicit 
consent,  where  the  people  are  guided  by  superficial  criteria,  and 
where  few  have  the  interest  to  examine  and  hold  in  mind  the  real 
principles  upon  which  the  new  system  rests. 

In  the  first  annual  report  of  Secretary  McCulloch,  after  the  return 
of  peace,  he  recommended  the  speedy  resumption  of  specie  payments, 
and  he  proceeded  to  withdraw  the  notes  from  circulation  as  the 
treasury  revenues  would  permit.  His  proposal  was  fully  approved 
by  Congress,  and  in  an  act  passed  in  April  of  1866,  a  steady  process 
of  contraction  was  provided  for. 

The  action  of  Congress  in  thus  providing  for  resumption  of  specie 
payments  gave  a  new  basis  for  confidence  in  the  credit  of  the  Govern- 
ment and  was  reflected  in  a  rise  in  the  value  of  the  notes,  which  was 
equivalent  to  a  fall  in  prices  of  goods  and  of  gold.  The  people  were 
apparently  unable  to  see  that  such  a  fall  of  prices  was  the  inevitable 
result  of  the  appreciating  credit  which  the  notes  represented,  a 
process  that  must  take  place  whether  the  actual  quantity  in  existence 
was  large  or  small.  Attention  was  centered,  not  on  the  underlying 
cause,  but  on  this  group  of  coincident  facts,  namely,  low  prices, 
inability  to  borrow  interpreted  as  scarcity  of  money,  and  contraction 
of  the  currency.  The  shadow  had  almost  completely  replaced  the 
substance  as  the  cause  of  falling  prices,  and  Congress  was  subjected 
to  a  rain  of  protests  against  the  poUcy  of  contraction. 

This  new  money,  which  cost  the  Government  nothing,  seemed 
to  the  people  as  good  as  gold.  It  paid  the  soldier,  built  the  railways, 
lifted  the  mortgage  from  the  farm.  What  more  could  be  asked  of 
any  sort  of  money?    It  was  the  money  of  the  common  people;   it 


THE  STANDARD  QUESTION:   PAPER  MONEY  i8l 

served  all  their  purposes  when  they  had  it,  but  now  it  was  apparently 
growing  scarce.  Bankers  said  they  had  none  to  lend,  debtors  had 
none  with  which  to  pay.  Buyers  found  money  scarce  and  were  unable 
to  pay  the  old  prices  for  products.  Everybody  was  afraid  to  buy  for 
fear  that  when  he  wished  to  sell  he  could  not  "get  his  money  back." 
These  were  the  practical  facts,  superficial  though  they  may  have  been. 
Business  was  dropping;  values  had  all  gone  to  pieces,  apparently  for 
want  of  that  which  it  cost  the  Government  nothing  to  supply. 

The  attack  upon  the  policy  of  contraction  reached  a  successful 
issue  in  1868  in  the  act  prohibiting  any  furtlier  retirement  of  the 
greenbacks.  With  the  steadily  falling  prices,  however,  the  discontent 
was  not  abated  and  it  found  expression  in  a  movement  for  the  aboli- 
tion of  bank  notes  and  an  increase  of  the  greenback  currency.  This 
movement  did  not  reach  its  culmination  until  1878,  though  as  early 
as  1872  it  appeared  as  a  national  party  issue  in  the  platform  of  the 
Labor  Reform  party,  which  resolved:  "That  it  is  the  duty  of  the 
Government  to  establish  a  just  standard  of  distribution  of  capital 
and  labor  by  providing  a  purely  national  circulating  medium,  based 
on  the  faith  and  resources  of  the  nation,  issued  directly  to  the  people 
without  the  intervention  of  any  system  of  banking  corporations, 
which  money  shall  be  legal  tender  in  the  payment  of  all  debts,  public 
and  private." 

The  error  of  theory  upon  which  the  agitation  for  more  money 
was  based  may  be  shown  in  a  series  of  propositions  appearing  in  the 
debates  of  Congress. 

a)  In  the  first  place  we  have  an  illustration  of  the  dangerous  half- 
truth.  Since  the  value  of  a  commodity,  as  gold,  was  determined  by 
demand  for  the  thing  and  the  supply  of  the  same,  so  now  it  was 
assumed,  and  urged,  that  the  value  of  promises  to  pay  was  dependent 
on  the  same  law  of  demand  and  supply.  The  terms  "gold"  and 
"promises"  were  not  used,  but  the  ambiguous  term  "money"  was 
used  instead  of  either,  so  that  the  two  propositions  became  identical. 
The  law  applicable  to  the  material  standard  was  asserted  to  applv 
to  the  medium  which  represented  the  new  immaterial  standard. 

"A  currency  good  in  the  payment  of  all  debts  would  fi.v  the  price 
of  commodities,  and  the  value  of  debts  would  be  adjusted  to  it.  The 
price  would  be  high  or  low,  depending  on  the  volume  of  the  currency." 

b)  The  identification  of  the  token  with  the  thing  for  which  it 
stood  may  be  shown  most  clearly  in  the  strange  belief  that  the  with- 
drawal and  subsequent  destruction  of  a  greenback  was  an  annihilation 


l82  PRINCIPLES  OF  MONEY  AND  BANKING 

of  just  so  much  of  ihe  wealth  of  the  nation,  notwithstanding  the  mani- 
fest fact  that  no  notes  could  be  cancelled  by  the  debtor  Treasury 
until  it  had  secured  them  by  delivering  equivalent  wealth  to  the 
creditor  holder. 

"When  you  tell  me  that  you  will  repeal  the  legal- tender  act  and 
burn  up  the  legal-tender  notes  I  tell  you  you  will  burn  up  $382,000,000 
values  in  this  country  and  you  reduce  to  the  extent  of  $382,000,000 
the  property  of  tJie  people  of  the  United  States  of  America." 

c)  If  the  value  of  the  notes,  or  their  purchasing  power,  depended 
on  the  volume  issued,  from  the  economic  point  of  view,  and  if  the 
stamp  of  the  Government  gave  to  money  whatever  value  it  possessed, 
the  whole  problem  of  prices  passed  over  as  by  the  wave  of  a  magician's 
wand  from  the  realm  of  economic  law  to  the  realm  of  legislation. 
Here  was  a  way  out  of  all  the  trouble  which  depressed  the  people. 
Here  was  the  time  and  place  to  make  a  new  declaration  of  independ- 
ence, an  opportunity  to  throw  off  the  galling  yoke  of  natural  law! 
For  what  other  purpose  did  the  Constitution  give  to  Congress  the 
power  to  "coin  money  and  to  regulate  the  value  thereof" ? 

"I  do  not  consult  antiquated  theorists  of  a  hundred  years  ago 
to  determine  whether  we  have,  or  have  not,  enough  money  for  the 

business  of  the  country Being  a  practical  man,  I  look  upon 

things  as  I  find  them  and  will  insist  on  a  system  of  finance  which  has 
proven  beneficial  to  our  people." 

"Are  we  to  be  whistled  down  the  wind  and  answered  by  theories 
from  John  Stuart  Mill  or  from  Bastiat  ?    I  hope  not." 

"  I  feel  compelled  to  regard  the  powers  of  Congress  over  the  money 
of  the  Republic  absolutely  sovereign,  complete,  indivisible,  and  un- 
restrained  It  remained  for  the  Congress  of  the  United  States, 

representing  the  most  intelligent  and  the  most  highly  civilized  people 
of  the  world,  to  coin  "  the  credit  of  the  nation,"  and  it  has  thus  wisely 
provided  a  lawful  money  for  the  people,  an  instrument  of  exchange 
more  perfect  than  that  of  any  other  nation.  In  our  progress  and 
development  a  great  stride  was  taken  in  monetary  science  when  the 
legal- tender  act  of  1862  was  approved  by  the  President  of  the 
United  States." 

d)  When  these  propositions  were  accepted  it  was  useless  to  look 
further  for  the  cause  of  the  hard  times.  The  suffering  all  came  from  a 
contraction  of  the  currency.  If  it  was  answered  that  there  had  really 
been  no  contraction  as  yet,  the  reply  came  quickly  that,  with  the 
great  development  of  trade  and  industry  in  the  last  few  years,  and 


THE  STANDARD  QUESTION:  PAPER  MONEY  183 

the  natural  growth  of  population,  the  failure  to  increase  the  volume 
of  currency  was  virtually  contraction. 

"It  was  then  for  want  of  money  and  not  on  account  of  too  much 

of  it,  to  meet  his  obligations  that  he  [Jay  Cooke]  failed The 

injury  in  every  instance  can  be  traced  to  the  want  of  money  and 
not  to  a  superabundance  of  it." 

"The  Senate  and  the  country  may  see  and  understand  how  and 
why  it  is  that,  however  hard  our  farmers  and  planters  may  work 
arid  toil,  however  genial  and  fruitful  the  season  may  have  been, 
however  plentiful  and  refreshing  the  rains  may  have  fallen  on  the 
fruitful  soil  of  the  West  and  of  the  South,  prosperity  for  the  want  of 
money  was,  and  is  today,  an  impossibility." 

It  has  been  said  that  the  people  were  not  in  a  position  to  see 
clearly  the  causes  of  the  depression.  What  they  did  see  was  the  net 
results  of  all  the  complex  forces.  These  net  results  were  falling  prices 
and  an  inability  to  renew  loans  as  they  came  due.  The  banks  refused 
to  lend,  not  for  want  of  a  circulating  medium,  but  because  of  the 
inability  of  the  borrower  to  assure  the  repayment  of  his  accommoda- 
tion. No  doubt  a  large  portion  of  the  people  believed  that  the  banks 
enjoyed  special  advantages  under  the  banking  law,  and  in  so  far  as 
they  were  creditors  they  were  favored  as  all  creditors  are  by  declining 
values,  granting  that  the  loan  is  secure,  just  as  debtors  are  favored  by 
advancing  prices.  The  attack  on  the  banks  was  not  an  essential 
feature  of  the  movement,  but  added  much  strength  to  it. 

e)  Assuming  then  that  producers  were  sufTering  from  a  dearth  of 
legal-tender  notes,  and  that  Congress  had  power  to  remedy  or  increase 
this  suffering,  the  attack  of  the  inflationists  was  naturally  directed 
at  three  specific  acts:  the  contraction  of  the  currency  by  tlie  Secretary 
with  the  approval  of  Congress  in  1865,  the  guaranty  of  payment  of 
bonds  in  coin  by  the  Act  to  Strengthen  the  Public  Credit,  and  the 
determination  to  resume  specie  payments  and  redeem  the  legal-tender 
notes.  In  this  attack  is  seen  clearly  outlined  the  change  in  moral  tone 
which  had  come  over  the  country  in  a  single  decade.  It  is  safe  to 
say  that  no  prominent  man  in  public  life  would  have  dared,  even  in 
the  darkest  day  of  the  war,  to  advise  the  perpetuation  of  the  legal 
tenders,  or  the  scaling  down  of  tlie  bonded  debt,  even  when  the 
bonds  were  issued  in  exchange  for  notes.  With  this  attack  upon 
Congress  and  the  Treasury  came  a  vociferous  abuse  of  capitalists  in 
general,  of  which  the  following  is  a  fair  example:  "We  have  doubled 
the  indebtedness  of  the  tax-payers  of  the  country  by  agreeing  to  pay 


l84  PRINCIPLES  OF  MONEY  AND  BANKING 

the  five-twenty  bonds  in  gold,  when  they  were  contracted  to  be  f)aid 
in  greenbacks;  but  that  does  not  satisfy  the  insatiate  greed,  the 
voracious  appetite  of  the  Shylocks  and  sharks,  the  bankers  and 
brokers,  the  money  mongers,  and  gold  worshii)[)crs,  of  the  country. 

"No,  sir,  these  lineal  descendants  and  next  of  kin  to  the  sordid 
and  mercenary  crew  whom  the  Saviour  of  the  world  when  on  earth 
whipped  and  scourged  from  the  temple  at  Jerusalem,  must  add  to  the 
intolerable  burden  of  debt  of  the  people  by  bringing  the  price  of  every- 
thing down  to  the  standard  of  gold,  by  contracting  the  currency  for 
the  purpose  of  accomplishing  that  sublimest  of  all  follies  in  the  present 
condition  of  the  country — the  resumption  of  specie  payment." 

/)  More  important  than  the  attack  upon  the  creditor  class  itself 
was  the  symptom  of  social  disease  indicated  by  this  new  and  distorted 
view  of  the  obligation  of  the  Government's  contract — the  pledged 
"faith  of  the  nation,"  which  by  these  same  partisans  was  said  to 
make  the  notes  as  good  as  gold.  Men  would  assert  that  the  value 
of  the  promises  of  this  great  nation  never  could  depreciate  and  in  the 
same  debate  gloat  over  the  fact  that  claims  against  the  Government 
could  not  be  enforced. 

"It  is  known  to  every  gentleman  that  you  passed  an  act  in  1869 
saying  you  would  redeem  this  debt  in  gold.  Suppose  you  did.  It 
did  not  form  any  part  of  the  contract.  It  was  a  legislative  act  and 
bound  nobody.    Whenever  you  repeal  it  it  is  at  an  end." 

g)  Finally,  in  order  to  buttress  this  theoretical  structure,  illustra- 
tions from  history  were  given,  and  alleged  conditions  were  described 
with  an  utter  disregard  of  facts.  As  an  instance,  one  writer  asserts, 
to  prove  the  influence  of  the  quantity  of  money  on  prices,  that  "  the 
United  States  had  $1,800,000,000  paper  in  January,  1866,  and  prices 
ranged  high  accordingly  in  thatmoney;  this  year  (1877)  the  volume 
of  money  is  little  over  $800,000,000,  and  prices  are  low  accordingly." 
False  assertions  such  as  this  could  be  cited  in  great  number. 

These  theories,  supported  by  facts  which  did  not  exist,  formed 
what  may  be  called  the  erroneous  intellectual  basis  of  greenbackism. 
But  this  was  only  the  basis  of  the  movement;  in  order  that  the  skeleton 
might  be  clothed  with  flesh  and  blood  and  quickened  into  life,  the 
emotions  of  the  people  must  be  touched,  and  this  point  was  not  neg- 
lected. No  flights  of  oratory  were  wanting.  On  this  line  the  two 
Senators  of  the  great  State  of  Illinois  may  be  quoted: 

"If  our  country  is  not  good,  then  our  currency  is  not  good;  if  our 
Government  is  good  our  currency  is  good,  and  with  a  Government 


THE  STANDARD  QUESTION:   PAPER  MONEY  185 

SO  endeared  to  the  people  of  this  hmd  that  they  would  spend  billions 
upon  billions  of  money  and  rivers  and  rivers  of  the  best  blood  to 
preserve  it,  I  ask  you  where  tlie  man  is  who  will  stand  up  here 
and  curse  it  and  say  it  is  not  responsible  for  the  circulation  of  the 
country." 

"Sir,  I  maintain  for  that  legal-tender,  today,  that  it  is  as  good 
as  gold.  The  honor  of  this  nation  is  pledged  for  its  redemption  in 
gold.  We  will  never  repudiate  a  dollar  or  a  dime  of  it.  Sir,  it  has 
upon  it  the  impress  of  the  best  faith  of  this  nation.    It  is  the  money 

sealed  and  sanctified  with  the  best  blood  of  the  Republic It 

is  a  noble  currency,  a  grand  trophy  of  the  war,  and  held  dear  in  the 
heart  of  every  American  citizen." 

h)  The  belief  in  an  arbitrary  shifting  of  values  by  every  variation 
in  the  volume  of  notes  led  to  another  view  less  extensively  held,  no 
doubt,  but  yet  of  serious  effect,  and  that  was  that  Congress  and  the 
Administration  were  in  the  corrupt  control  of  the  financial  interests 
against  the  producing  or  borrowing  interests.  As  the  farmer  brooded 
over  his  misfortunes  and  was  stung  with  the  feeling  of  injustice  in 
addition  to  the  realization  of  loss;  as  the  conviction  became  more 
and  more  impressed  that  he  had  not  only  been  betrayed  by  his  repre- 
sentatives, but  deliberately  robbed  of  the  result  of  his  labor  and  the 
patrimony  of  his  children,  he  was  ready  to  believe  the  demagogue 
who  could  explain  it  all  and  point  out  the  remedy.  This  psychological 
stress  was  made  the  more  tense  and  socially  effective  by  that  concen- 
tration of  dissatisfaction  in  agricultural  and  rural  environment  which 
characterized  the  West  and  South. 

The  "Inflation  Bill  of  1873"  is  one  of  the  most  entertaming 
debates  in  the  Annals  of  Congress.  Objectively  speaking,  it  com- 
prises seventeen  hundred  columns  of  the  Congressional  Record  and 
occupied  almost  the  entire  attention  of  both  Houses  during  the  long 
session  of  the  Congress  beginning  December  i.  In  this  voluminous 
compendium  we  have  gathered  together  what  is  probably  the  most 
interesting  body  of  economic  theor>-,  from  the  point  of  view  of  the 
curio-hunter,  that  American  public  records  afford.  The  advocates  of 
inflation  were  in  the  majority — the  vote  in  the  House  was  140  to  102; 
in  the  Senate,  29  to  24 — and  the  bill  to  increase  the  circulation  of 
greenbacks  to  $400,000,000  failed  to  become  law  only  by  the  %-eto 
of  President  Grant.  The  quotations  above  are  taken  almost  entirely 
from  this  discussion,  as  illustrating  the  views  of  the  most  representative 


l86  ,  PRINCIPLES  OF  MONEY  AND  BANKING 

body  of  men  available.  It  may  be  observed  that  the  inflationist 
advocates  were  not  confined  to  either  of  the  great  parties  nor  to  any 
section. 

As  a  direct  party  issue  greenbackism  proved  to  be  a  weaker 
movement  than  did  the  non-partisan  measure  of  1873-74.  The  tem- 
porary relief  of  more  prosperous  times  and  the  strength  of  the  old 
party  ties  resulted  in  practical  abandonment  after  a  single  decade  of 
struggle.  The  element  of  the  discontented  and  aggrieved  found  a 
more  promising  field  for  their  powers  of  agitation  in  another  move- 
ment which  was  already  taking  form;  for  while  the  silver  movement 
offered  the  essential  benefits  which  greenbackism  sought,  it  held  out 
certain  important  tactical  advantages, 

107.    THE  FRONTIER  FARMER  AND   GREENBACKISM' 
By  CLYDE  O.  RUGGLES 

It  was  ultimately  in  the  agricultural  west  that  greenbackism  found 
its  strongest  support.  The  conclusions  of  a  study  of  the  greenback 
movement  in  two  typical  states,  Iowa  and  Wisconsin,  may  be  sum- 
marized as  follows: 

The  prosperous  decade  of  i860  to  1870  encouraged  many  to  engage 
in  farming  and  to  go  into  debt;  that  the  falling  prices  of  the  decade 
1870  to  1880  made  it  impossible  for  many  to  pay  these  debts,  especially 
since  the  subsidy  policy  of  the  Homestead  Law  had  enticed  a  class 
with  but  very  slender  means  to  enter  agriculture;  that  the  counties 
which  sustained  a  slightly  higher  percentage  of  mortgage  to  farm 
value  gave  more  votes  to  the  Greenback  party;  that  the  land  subsidy 
policy  also  brought  about  a  greater  production  of  the  principal  grains 
than  could  be  disposed  of  at  a  profit;  that  the  Greenback  party  was 
organized  and  attained  its  greatest  strength  in  both  States  during  the 
years  of  greatest  agricultural  depression  and  lost  its  hold  on  the  voter 
with  the  return  of  better  times;  that  the  party  was  strongest  in  that 
State  which  was  more  dependent  upon  agriculture,  and  in  the  section 
of  both  States  that  were  more  frontier  in  character;  and,  finally, 
that  in  the  "Greenback  counties"  there  was  but  little  stress  upon 
manufacturing,  diversified  farming,  and  the  dairy,  and  a  marked 
concentration  upon  grain  farming. 

'Adapted  from  "The  Economic  Basis  of  the  Greenback  Movement  in  Iowa 
and  Wisconsin,"  Proceedings  of  Mississippi  Valley  Historical  Association  (Omaha), 
VI  (1913),  765- 


THE  STANDARD  QUESTION:  PAPER  MONEY  187 

108.     OBJECTIONS  TO  RESUMPTION  OF  SPECIE  PAYMENTS' 
By  benjamin  BUTLER 

If  resumption  of  specie  payments  could  be  accomplished  it  would 
cause  the  greatest  depreciation  of  values  in  every  species  of  property 
except  debts  held  against  the  Government  and  individuals.  Every 
bond  and  note  would  be  appreciated,  say  30  per  cent.  All  other 
property  would  be  depreciated  the  same  amount  as  compared  with 
the  present  rate  of  valuation.  Such  an  unsettling  of  values  the  world 
has  never  seen  nor  any  nation  endured.  It  would  be  equivalent  to 
confiscation  by  legislative  act  of  one-third  of  the  value  of  all  the 
property  in  the  country,  excepting  only  that  held  by  the  creditor 
class. 

But  could  resumption  in  fact  be  accomplished  ?  The  sole  allevia- 
tion yet  suggested  is  that  such  confiscation  might  be  extended  over  a 
considerable  period  of  time,  say  two  years  and  a  half,  so  that  we 
might  meanwhile  be  preparing  ourselves  for  it;  in  other  words,  the 
Government  ought  to  deprive  the  large  majority  of  the  middle  and 
laboring  classes  of  its  people  of  12  per  cent  annually  of  their  values 
until  one-third  of  them  are  absorbed  for  the  benefit  of  the  small 
minority,  who  are  owners  of  capital  loaned  at  interest. 

I  will  not  insult  the  intelligence  of  the  House  by  any  argument 
upon  the  feasibiUty  or  practicability  of  these  schemes.  The  better 
way  to  test  them  is  to  call  attention  to  one  or  two  of  the  methods  by 
which  it  is  proposed  to  accomplish  so  gigantic  an  undertaking.  One 
says,  "The  way  to  resume  specie  payments  is  to  resume."  Suppose 
the  physician  should  say  to  the  sick  man,  "The  way  not  to  be  sick 
is  to  be  well,"  might  not  the  patient  ask  his  doctor,  How  am  I  to  get 
well  ?  So,  a  few  years  ago,  one  may  remember  that  the  way  proposed 
for  the  Union  armies  to  get  to  Richmond  was  "On  to  Richmond '';  and 
I  trust  I  may  not  be  considered  mahcious  in  calling  to  mind  that  our 
armies  found  some  difficulties  in  carrying  out  that  suggestion,  which 
resulted  in  such  disaster  that  it  was  to  be  hoped  those  who  blindly 
advocated  it  would  never  again  dogmatize  upon  any  subject  the  dif- 
ficulties of  which  they  neither  appreciated  nor  understood. 

Another  proposition,  coming  from  a  source  we  much  respect  in 
some  other  of  the  branches  of  political  science,  is  that  we  pass  a  law 
that  specie  payments  shall  be  resumed  on  the  ist  day  of  July  next, 

'Adapted  from  speech  in  Congress,  Januar>'  12,  1869,  Congressional  Globe, 
40th  Congr.,  3d  scss.,  pp.  304-5. 


l88  PRINCIPLES  OF  MONEY  AND  BANKING 

bul  we  are  not  told  how  the  law  is  to  be  executed  if  passed.  It  was 
jocosely  said  many  years  ago  that  while  an  act  of  Parliament  was 
omnipotent  yet  it  could  not  make  one's  uncle  his  aunt.  I  fancy  there 
would  be  an  equally  insuperable  difficulty  in  compelling  by  act  of 
Congress  the  payment  at  par  of  $700,000,000  of  debts  due  on  demand 
when  there  are  but  $100,000,000  capable  of  being  used  for  that  purpose- 

Another  learned,  able,  and  intelligent  gentleman,  for  whom  all 
entertain  the  highest  regard,  in  a  speech  of  great  power,  supports  a 
bill  embodying  a  plan  for  the  relief  of  our  financial  difficulties  which 
would  be  perfect  were  it  not  impossible.  Stripped  of  the  halo  thrown 
around  it  by  his  logic  and  learning,  it  proposes  that  the  Government 
and  banks  shall  return  to  specie  payments  by  hoarding  gold  enough 
with  which  to  do  it.  Granted:  but  where  is  the  gold  to  be  got? 
By  borrowing  simply.  For  although  the  Government  may  hoard 
the  gold  it  receives  for  its  duties  on  imports,  yet  that  gold  is  in  fact 
obtained  by  its  merchants  by  borrowing  it  with  Government  notes 
at  35  per  cent  discount.  Whatever  deficit  of  gold  to  carry  out  this 
scheme  cannot  be  obtained  by  this  process  is  to  be  borrowed  on  the 
Government  notes  for  thirty  years,  sold  at  such  rate  of  discount  as 
foreign  bankers  may  choose  to  impose.  Now,  specie  payments,  if 
they  can  be  maintained,  it  will  be  admitted,  will  make  all  our  public 
debt  with  its  high  rates  of  interest  equal  to  par,  if  not  at  a  premium 
in  gold.  The  fault  in  the  plan  seems  to  be  that  we  are  not  told  how 
many  greenbacks  we  must  sell  at  35  per  cent  less  than  their  face,  and 
how  many  bonds  we  must  negotiate  at  a  like  rate  of  discount  on 
thirty  years,  to  place  ourselves  in  condition  to  pay  both  greenbacks 
and  the  bonds,  which  we  thus  sell  at  par.  Differential  calculus  might 
work  out  the  problem,  but  plain  arithmetic  is  entirely  inadequate  to 
the  task.  Besides,  as  upon  the  best  authorities  there  are  only  about 
fifteen  hundred  millions  of  specie  currency  in  circulation  in  all  the 
nations  where  our  bonds  have  been  or  will  be  taken  as  an  investment, 
or,  indeed,  in  the  civilized  world,  if  we  should  succeed  in  locking 
up  $350,000,000  of  that,  or  20  per  cent  of  the  whole  currency  of  the 
world,  should  we  not  make  what  in  technical  phrase  is  known  as  a 
"corner"  on  the  rest  of  mankind,  in  comparison  with  which  the  late 
performance  in  that  line  of  the  Erie  Railroad  and  New  York  bankers 
would  sink  into  merited  insignificance  ? 

Time  will  not  permit  me  further  examination  of  this  and  cognate 
plans  for  the  resumption  of  specie  payments.  If  a  return  to  specie 
values  is  the  only  remedy  for  our  financial  evils,  then  there  is  but 


THE  STANDARD  QUESTION:   PAPER  MONEY  189 

one  plan,  in  my  judgment,  by  which  it  can  be  accomplished:  we  must 
wait  and  groio  to  it.  By  the  industry  and  economy  of  our  people;  by 
the  development  of  our  resources;  by  the  enterprise  of  our  business; 
by  the  extension  of  our  commerce;  by  the  production  of  the  precious 
metals;  by  reducing  importations,  the  only  method  by  which  we  can 
keep  specie  at  home;  by  retrenchment  of  the  expenses  of  government, 
both  State  and  national;  by  the  relinquishment  of  all  hazardous  and 
doubtful  enterprises,  we  must  accumulate  sufficient  suqilus  wealth 
to  bring  back  the  $600,000,000  of  our  national  bonds  held  abroad,  to 
which  may  be  added  an  equal  like  amount  of  State  and  railroad  bonds 
also  held  there,  and  thus  stop  the  annual  drain  of  more  than  seventy 
millions  of  bullion  now  sent  abroad  year  by  year  to  meet  interest 
alone.  When  this  is  done  we  may  with  wisdom  return  to  specie 
values  and  specie  payments  without  serious  financial  disaster  and 
commercial  ruin.  But  this  time  will  come  only  when  gold  and  silver 
from  the  plenitude  of  its  production  will  have  depreciated  to  our 
values,  not  we  appreciate  them  to  the  present  value  of  gold  and  silver. 

109.    THE  RESUMPTION  OF  SPECIE  PAYMENTS' 
By  ALEXANDER   D.   NOYES 

As  Secretary  of  the  Treasury,  ]Mr.  Sherman  fixed  upon  40  per  cent 
as  "the  smallest  reserve  at  which  resumption  could  be  prudently 
commenced  and  successfully  maintained."  In  pursuance  of  this  policy 
he  had  accumulated  by  December  31,  1878,  $114,193,000  in  gold, 
which  was  a  trifle  over  40  per  cent  of  the  United  States  notes  tiien 
outstanding.  Of  this  gold  reserve  $95,500,000  had  been  obtained 
through  the  sale  of  bonds,  part  of  the  coin  being  procured  in  Europe. 

The  accomplishment  and  maintenance  of  specie  payments,  how- 
ever, was  not  a  simple  task.  The  danger  to  the  Treasury's  redemption 
fund  lay,  as  ever>'one  understood,  in  possible  gold  exports.  As  it 
happened,  there  was  no  gold  movement  in  progress  at  the  time  of 
specie  resumption;  but  foreign  exchange  was  only  a  trifle  below  the 
normal  gold-exporting  point,  and  no  spring  season  for  eighteen  years 
had  passed  without  gold  shipments.  In  the  first  half  of  1877,  nearly 
twenty  millions  of  gold  had  been  exported  from  New  York,  chiefly 
obtained  from  the  city  banks.  On  January  i,  1879,  these  New  York 
banks  held  in  specie  only  $19,781,400,  but  they  held  twice  as  much 

'Adapted  from  Forty  Years  of  American  Fiiuiiuc,  pp.  45-57.  ((i.  P.  Put- 
nam's Sons,  1898.) 


IQO  PRINCIPLES  OF  MONEY  AND  BANKING 

in  legal-tender  notes,  redeemable  at  the  Treasury  in  gold.  Supposing, 
then,  a  further  rise  in  exchange  and  a  heavy  export  of  gold,  there 
was  not  the  least  doubt  about  what  would  happen  to  the  Treasury 
reserve. 

The  general  industrial  situation  in  1879  foreboded  trouble. 
Domestic  markets  were  unfavorable,  wage  reductions  were  pending 
in  the  cotton  goods  industry,  and  the  iron  trade,  a  traditional  barom- 
eter of  industrial  situations,  opened  the  year  with  so  little  activity 
that  prices  fell  below  the  normal  average  cost  of  production.  With 
hardly  an  exception  the  country's  staple  industries  sank,  during  the 
early  months  of  1879,  into  complete  stagnation.  In  February,  the 
most  experienced  international  bankers,  including  the  Rothschilds, 
who  had  placed  the  bulk  of  recent  American  loans,  predicted  that 
gold  was  about  to  move  in  quantity  from  the  United  States  to  Europe. 
By  the  middle  of  March,  the  Secretary  was  disturbed  enough  to  set 
on  foot  an  inquiry  into  the  possibility  of  controlling  specie  exports 
through  sales  of  Government  exchange.  Such  recourse,  Mr.  Sherman 
plainly  intimated,  might  become  necessary  "in  preventing  popular 
alarm."  Not  even  this  expedient  was  feasible;  sterling  continued  to 
advance,  and  finally  in  the  second  week  of  June  a  million  and  a  quar- 
ter gold  was  shipped.  This  gold  was  obtained  from  the  Treasury  in 
exchange  for  notes;  it  reduced  to  precisely  that  extent  the  Govern- 
ment reserve. 

The  wheat  harvest  of  1878,  in  England  and  on  the  European 
continent,  had  been  one  of  the  largest  on  record.  When  1879  was 
well  advanced,  wheat  from  English  farms  was  still  moving  in  quantity 
to  storage  points.  At  the  close  of  March,  the  stock  of  wheat  at  Liver- 
pool was  larger  than  at  any  time  within  five  years;  the  same  was 
true  of  every  cereal  product.  Frosty  weather  and  heavy  rains  in 
England  had  indeed  advanced  the  price  of  wheat  sixpence  a  bushel, 
and  it  was  admitted  that  the  English  crop  of  1878  would  not  be  dupli- 
cated. But  meantime  the  reserve  supply  was  ample,  demand  from 
consumers  was  only  moderate,  and  early  in  March  observers  of  the 
market  predicted  that  prices  had  reached  their  high  level  for  the  year. 

Little  by  little  the  foreign  situation  changed.  As  is  usual  with 
highly  speculative  markets,  the  news  was  contradictory,  and  the  truth 
developed  slowly.  But  it  was  evident  in  May,  while  the  outlook  for 
this  country's  harvest  was  steadily  improving,  that  the  European 
grain  markets  were  beginning  to  stir  with  apprehension.  In  France 
snow  fell  heavily  late  in  the  spring;    in  England,  after  a  late  and 


THE  STANDARD  QUESTION:   PAPER  MONEY  IQI 

destructive  frost,  rain  set  in  and  continued  almost  incessantly  through 
the  summer.  It  was  literally  a  sunless  season.  At  the  opening  of 
July,  people  were  wearing  heavy  overcoats  in  London,  and  in  the 
country  all  the  crops  were  moulding.  By  this  time  the  impending 
harvest  failure  had  begun  to  assume  the  dimensions  of  a  national 
calamity.  On  Sunday,  July  6th,  by  the  Archbishop  of  Canterbury's 
direction,  prayers  for  fair  weather  were  offered  in  the  English  churches. 
In  another  month  the  time  was  past  when  even  favorable  weather 
would  help,  and  by  August  it  was  made  clear  to  all  markets  that, 
while  the  United  States  would  yield  the  largest  harvest  in  its  history, 
every  growing  crop  in  the  British  Islands  was  practically  ruined.  No 
such  disaster  had  befallen  English  agriculture  within  the  memory  of 
living  men.  The  actual  decrease  in  the  wheat  crop  especially,  as 
compared  with  1878,  was  54  per  cent;  the  total  yield  was  smaller  by 
thirty  million  bushels  than  in  the  leanest  recorded  year  since  the 
middle  of  the  century.  Nor  was  this  Europe's  only  agricultural 
catastrophe.  Until  midsummer,  there  had  been  favorable  news  from 
the  continental  crops.  But  the  blight  which  fell  on  England's  harvest 
did  equal  damage  beyond  the  Channel.  France,  Austria,  Germany, 
and  Russia  yielded,  in  1879,  the  smallest  and  poorest  wheat  crops  in 
ten  years;  the  whole  continental  harvest  fell  off  15  per  cent  from  the 
average  of  the  three  preceding  years.  European  states,  which  usually 
exported  wheat,  had  not  raised  enough  to  feed  their  own  people.  "It 
is  the  American  supply  alone,"  wrote  one  contemporary  critic,  "which 
has  saved  Europe  from  a  great  famine." 

All  circumstances  seemed  to  conspire  in  favor  of  this  country. 
Sunny  and  favorable  "farmer's  weather,"  with  the  due  proportion 
of  rains,  prevailed  throughout  the  season.  The  wheat  fields  under 
cultivation  had  increased  over  1878  by  half  a  million  acres.  The 
average  yield  per  acre  has  never  but  twice  been  exceeded  in  this 
country,  and  the  total  crop  exceeded  by  28,000,000  bushels  the  crop 
of  any  previous  year.  The  positive  news  of  Great  Britain's  crop 
failure  carried  the  price  up  no  less  than  forty  cents  a  bushel  within 
six  weeks.  Along  with  this  advance  in  prices,  exports  of  wheat  rose 
to  wholly  unprecedented  volume.  The  foreign  buying  was  so  urgent 
that  the  country's  wheat  shipments,  which  even  in  1878  did  not  run 
beyond  two  million  bushels  weekly,  averaged,  in  September,  1879,  a 
million  bushels  daily,  a  volume  of  grain  exports  equalled  only  twice 
in  the  country's  subsequent  history.  The  crop  of  Indian  corn  was 
the  largest  on  record;    this,  too,  found  a  ready  and  profitable  export 


192  PRINCIPLES  OF  MONEY  AND  HANKING 

market.  Cattle  raised  on  the  interior  farms  were  sent  al^road  in  such 
numbers  that  the  foreign  trade  complained  that  British  graziers  were 
bemg  forced  out  of  the  British  market.  By  a  rather  remarkable 
coincidence  the  famous  tide-water  pipe-line  from  the  Pennsylvania 
oil-wells  was  completed  in  1879,  and  the  year's  export  of  this  product 
rose  nearly  two  million  barrels  over  the  highest  previous  record.  By 
another  coincidence,  equally  independent  of  any  events  already 
noticed,  the  cotton  crop  of  India  fell  off  30  per  cent  from  the  autumn 
stock  of  1S7S  and  50  per  cent  from  1877,  and  with  the  consequent 
heavy  purchases  by  foreign  spinners,  the  season's  export  of  American 
cotton  was  the  largest  ever  yet  recorded. 

The  first  result  of  this  sudden  change  in  the  situation  was  a  fall  in 
the  foreign  exchanges,  and  consequent  dissipation  of  all  fears  that  the 
resumption  fund  would  be  impaired.  With  this  menace  removed 
from  the  financial  outlook,  the  country's  torpid  enterprise  awoke. 
The  trade  revival  which  ensued  was  without  question  the  most 
remarkable  in  this  country's  commercial  history. 

no.     CONSTITUTIONALITY  OF  THE   LEGAL-TENDER  NOTES.^ 
By  DAVIS  R.  DEWEY 

For  some  time  after  the  issue  of  the  greenbacks  there  was  uncer- 
tainty as  to  the  legal-tender  attribute  of  the  treasury  notes,  and 
questions  quickly  arose  which  required  settlement  in  the  State  and 
federal  courts.  The  trend  of  the  decisions  of  the  Supreme  Court  from 
the  first  was  toward  a  limitation  of  the  notes:  In  Lane  County  v. 
Oregon  (1868)  it  was  held  that  the  notes  were  not  legal  tender  for 
State  taxes;  in  The  Bank  v.  Supervisors  (1868)  that  they  were  obli- 
gations or  securities,  and  consequently  exempt  from  taxation;  and 
in  Branson  v.  Rodes  (1868)  that  they  were  not  legal  tender  in  the 
settlement  of  contracts  specifically  calling  for  the  payment  of  specie. 
Finally  the  more  direct  question  of  constitutionality  was  passed  upon 
by  the  Supreme  Court  in  1869  in  the  case  of  Hepburn  v.  Griswold. 
In  i860  a  Mrs.  Hepburn  in  a  promissory  note  agreed  to  pay  Griswold 
on  February  20,  1862,  $11,250.  At  each  of  the  above  dates  the  only 
lawful  money  was  gold  and  silver  com.  Mrs.  Hepburn  failed  to  pay 
the  note  at  maturity,  and  upon  a  suit  brought  in  Kentucky,  in  March, 
1864,  tendered  payment  in  United  States  notes  which  had  been  issued 

'  Adapted  from  Financial  Tlistory  of  the  United  States,  pp.  362-67.  (Long- 
mans, Green,  &  Co.,  1903.) 


THE  STANDARD  QUESTION:  PAPER  MONEY  193 

February  25,  1862,  that  is,  five  days  after  the  maturity  of  the  note. 
The  tender  was  refused.  An  appeal  was  carried  to  the  United  States 
Supreme  Court,  and  a  decision  rendered  in  December,  1869.  The 
opinion  by  a  fateful  stroke  of  fortune  was  dehvered  by  Chief  Justice 
Chase,  in  whose  administration  as  secretary  of  the  treasury  the  notes 
had  been  first  issued.  The  legal-tender  quahty  was  denied;  yet  the 
whole  question  was  not  covered,  because  the  case  involved  only  the 
tender  of  notes  in  settlement  of  contracts  entered  on  previous  to 
the  first  legal- tender  act;  and  Chase,  in  the  declaratory  portions  of  the 
opinion,  was  careful  to  limit  the  application  of  the  decision  to  such 
contracts.  Nevertheless  the  court  clearly  indicated  its  conviction  on 
the  question  of  the  constitutionality  of  notes  tendered  in  the  settle- 
ment of  current  contracts,  for  it  practically  asserted  that  the  legal- 
tender  clause  was  not  only  improper,  but  unnecessary.  "Amid  the 
tumult  of  the  late  Civil  War,  the  time  was  not  favorable  to  consid- 
erate reflection  upon  the  constitutional  limits  of  legislative  or  execu- 
tive authority.  If  power  was  assumed  from  patriotic  motives,  the 
assumption  found  ready  justification  in  patriotic  hearts.  Many  who 
doubted  yielded  their  doubts;  many  who  did  not  doubt  were  silent. 
Some  who  were  strongly  averse  to  making  government  notes  a  legal 
tender  felt  themselves  constrained  to  acquiesce  in  the  views  of  the 
advocates  of  the  measure.  Not  a  few  who  then  insisted  upon  its 
necessity,  or  acquiesced  in  that  view,  have,  since  the  return  of  peace, 
and  under  the  influence  of  the  calmer  time,  reconsidered  their  con- 
clusions, and  now  concur  in  those  which  we  have  just  announced." 
Three  justices  concurred  with  Chase  in  the  majority  opinion,  while  a 
dissenting  opinion  was  rendered  by  Justice  Miller  in  which  two  of 
his  associates  joined,  thus  dividing  the  court,  four  to  three. 

The  decision  was  unpopular.  The  close  division  of  the  court, 
when  it  was  not  complete,  was  an  irritating  factor,  to  say  nothing  of 
the  disturbance  to  business  if  gold  payments  were  to  be  enforced.  A 
second  case,  Knox  v.  Lee,  subsequently  came  before  the  court,  but 
before  the  decision  was  rendered  in  May,  187 1,  the  membership  of 
the  court  was  changed  by  the  addition  of  two  members,  one  to  fill  a 
vacancy,  and  the  other  through  a  statute  enlarging  the  court  from 
seven  to  eight.  Inasmuch  as  on  this  occasion  the  decision  of  1869 
was  reversed,  there  have  been  charges  that  the  court  was  packed  in 
order  to  bring  about  the  reversal.  The  evidence  on  this  point  has 
been  carefully  examined  by  Professor  Hart  in  his  biography  of  Chase, 
and  the  charges  of  collusion  clearly  shown  to  be  unfounded.    That  the 


194  PRINCIPLES  OF  MONEY  AND  BANKING 

new  justices  would  be  in  general  accord  with  the  administration  was 
to  be  expected;  there  was,  however,  no  previous  understanding  of 
their  views  on  the  particular  question  of  legal  tenders,  and  no  instruc- 
tions to  bring  about  a  reversal  of  the  earlier  decision.  Nevertheless, 
it  must  be  admitted  that  there  was  a  strong  popular  expectation  that 
as  soon  as  the  court  was  reorganized,  a  reversal  of  the  opinion  would 
be  made.  This  is  geen  in  the  fact  that  the  first  decision  did  not  lead 
to  a  reduction  in  the  premium  on  gold,  and  the  exceptional  methods 
adopted  by  the  court  in  order  to  bring  another  case  quickly  before 
it  for  adjudgment  showed  unusual  feeling  and  pressure. 

In  the  opinion  on  the  case  of  1871  (filed  in  1872),  the  court  held 
that  a  broad  interpretation  must  be  given  to  the  Constitution,  for 
it  could  not  be  expected  that  this  document  would  completely  enumer- 
ate all  the  powers  of  government  with  details  and  specifications;  the 
powers  of  Congress  must  be  regarded  as  related  to  each  other,  and 
means  for  a  common  end.  Among  the  non-enumerated  powers,  there 
certainly  must  be  included  the  power  of  self-preservation,  and  no 
reasonable  construction  of  the  Constitution  could  deny  to  a  govern- 
ment the  right  to  employ  freely  every  means  not  prohibited,  or 
necessary  for  its  preservation.  And  in  carrying  out  its  purpose  Con- 
gress is  entitled  to  a  choice  of  means  which  are  in  fact  conducive  to 
the  exercise  of  a  power  granted  by  the  Constitution.  Marshall's  words 
in  the  decision  on  McCulloch  v.  Maryland  are  cited  as  convincing  and 
conclusive.  "Let  the  end  be  legitimate,  let  it  be  within  the  scope 
of  the  Constitution,  and  all  means  which  are  appropriate,  which  are 
plainly  adapted  to  that  end,  which  are  not  prohibited,  but  are 
consistent  with  the  letter  and  spirit  of  the  Constitution,  are  con- 
stitutional." 

There  were  two  main  questions  for  the  court  to  consider:  Were 
the  legal-tender  acts  inappropriate  means  for  the  execution  of  any  or 
all  of  the  powers  of  the  government  ?  And  were  they  prohibited  by  the 
Constitution?  As  to  the  first  question,  the  emergency  was  great 
when  the  legal- tender  acts  were  passed;  the  endurance  of  the  govern- 
ment had  been  tried  to  the  utmost.  "Something  revived  the  droop- 
ing faith  of  the  people;  something  brought  immediately  to  the 
government's  aid  the  resources  of  the  nation,'  and  something  enabled 
the  successful  prosecution  of  the  war  and  the  preservation  of  the 
national  life.  What  was  it^  if  not  the  legal-tender  enactments  ?"  As 
to  whether  other  means  might  not  have  been  effective,  that  was  not 


THE  STANDARD  QUESTION:   PAPER  MONEY  195 

for  the  courls  to  decide;   the  degree  of  appropriateness  of  given  laws 
is  for  the  legislature  and  not  for  the  judiciary  to  determine. 

On  the  second  point  the  court  held  that  the  making  of  the  treasury 
notes  a  legal  tender  was  not  forbidden  either  by  the  letter  or  by  the 
spirit  of  the  Constitution.  Although  certain  express  powers  are  given 
to  Congress  in  regard  to  money,  it  cannot  be  inferred,  as  the  Consti- 
tution has  been  in  general  construed,  that  all  other  powers  are  by 
implication  forbidden.  Since  the  States  are  expressly  prohibited 
from  declaring  what  shall  be  money,  or  from  regulating  its  value, 
whatever  power  exists  over  the  currency  is  vested  in  Congress.  Con- 
sidering that  there  is  no  express  prohibition  upon  Congress  in  this 
matter,  and  that  paper  money  was  almost  exclusively  in  use  in  the 
States  as  the  medium  of  exchange,  it  must  be  presumed  that  the 
framers  of  the  Constitution  did  realize  that  emergencies  might  arise 
when  the  precious  metals  would  prove  inadequate  to  the  necessities 
of  the  government. 

Nor  could  it  be  argued  that  the  legal-tender  acts  are  unconstitu- 
tional because  they  directly  impaired  the  obligation  of  contracts, 
that  is,  of  contracts  made  previous  to  the  passage  of  the  act.  In 
contracts  for  payment  of  money,  it  did  not  mean  money  at  the  time 
when  the  contract  was  made,  nor  gold  or  silver,  nor  money  of  equal 
intrinsic  value  in  the  market;  the  obligation  was  to  pay  that  which 
is  recognized  as  money  when  the  payment  is  to  be  made.  "Every 
contract  for  the  payment  of  money  simply,  is  necessarily  subject  to 
the  constitutional  power  of  the  government  over  the  currencv,  what- 
ever that  power  may  be,  and  the  obligation  of  the  parties  is  therefore 
assumed  with  reference  to  that  power."  More  than  this.  Congress 
does  have  the  power  to  impair  contracts  indirectly  by  rendering  them 
fruitless  or  partly  fruitless,  as  in  bankrupt  laws,  declaration  of  war, 
and  embargoes.  No  obligation  of  a  contract  can  extend  to  the  defeat 
of  legitimate  government  authority. 

In  conclusion,  it  was  observed  that  the  legal-tender  acts  did  not 
attempt  to  make  paper  a  standard  of  value;  their  validity  does  not 
rest  upon  the  assertion  that  this  emission  is  coinage,  or  any  regulation 
of  the  value  of  money;  or  that  Congress  may  make  money  out  of 
anything  which  has  no  value.  "What  we  do  assert  is,  that  Congress 
has  power  to  enact  that  the  government's  promises  to  pay  money 
shall  be,  for  the  time  being,  equivalent  in  value  to  the  representation 
of  value  determined  by  the  coinage  acts  or  to  multiples  thereof." 


196  PRINCIPLES  OF  MONEY  AND  BANKING 

This  decision  set  lied  the  question  of  constitutionality  of  legal- 
tender  issues  in  times  of  war,  but  it  left  uncertainty  as  to  the  powers 
of  government  over  currency  during  peace.  The  judicial  decision  on 
this  point  was  made  by  the  Supreme  Court  in  1884  in  the  case  of 
Juilliard  v.  Greenman;  the  question  before  it  was  the  constitutionality 
of  that  provision  of  the  law  of  1878  which  required  that  all  legal-tender 
notes  redeemed  at  the  treasury  be  reissued,  kept  in  circulation,  and 
continue  to  retain  their  legal-tender  quality.  The  court  decided  in 
favor  of  the  constitutionality  of  such  reissues,  by  a  generous  inter- 
pretation of  the  doctrine  of  implied  powers,  in  support  of  which  the 
reasoning  of  Marshall,  in  the  case  of  McCulloch  v.  Maryland,  is 
again  reviewed  at  length.  As  preHminary  to  the  main  conclusion,  it  is 
shown  that  Congress  has  the  power  to  pay  the  debts  of  the  United 
States;  that  in  pursuance  of  this,  all  means  which  are  appropriate, 
and  not  prohibited,  are  constitutional;  that  not  too  much  weight 
should  be  given  to  the  debates  and  votes  of  the  Constitutional  Con- 
vention of  1787,  for  there  is  no  proof  of  any  general  consensus  of  opin- 
ion in  the  convention  upon  this  subject;  that  the  power  to  borrow 
money  includes  the  power  to  issue  obhgations  in  any  appropriate 
form,  and,  if  desired,. in  a  form  adapted  to  circulation  from  hand  to 
hand  in  the  ordinary  transactions  of  commerce  and  trade;  tliat  the 
issue  of  legal-tender  notes  is  incident  to  the  right  of  coinage;  and 
finally,  that  Congress  has  power  to  provide  a  currency  for  the  whole 
country.  As  a  consequence.  Congress  "may  issue  the  obligations  in 
such  form  and  impose  upon  them  such  qualities  as  currency  for  the 
purchase  of  merchandise  and  the  paj-ment  of  debts  as  accord  with 
the  usage  of  sovereign  governments";  and  it  is  for  Congress,  the 
legislature  of  a  sovereign  nation,  to  declare  whether,  because  of  an 
inadequacy  of  the  supply  of  gold  and  silver  coin,  it  is  wise  to  resort 
to  legal-tender  paper  issues. 

The  decision  reopened  tlie  controversy ;  this  was  largely  academic; 
Bancroft,  the  historian,  made  a  passionate  protest  in  a  pamphlet 
entitled,  A  Plea  for  the  Constitution  of  the  United  States  of  America, 
Wounded  in  the  House  of  Its  Guardians;  but  popular  judgment  on 
the  whole  was  favorable.  La\^^■ers  and  consitutional  commentators 
were  slowly  coming  to  the  conclusion  that  the  interpretation  of  the 
Constitution  must  rest  upon  a  broader  basis  than  that  of  the  debates 
of  1787;  and  the  people  at  large  were  satisfied  that  there  was  to  be 
no  disturbance  in  the  conditions  to  which  they  had  been  long  accus- 
tomed. 


THE  STANDARD  QUESTION:  PAPER  MONEY  197 

III.    THE   GREENBACK  PARTY  PLATFORM  OF   1878 

Whereas,  Throughout  our  entire  country  the  value  of  real  estate 
is  depreciated,  industry  paralyzed,  trade  depressed,  business  incomes 
and  wages  reduced,  unparalleled  distress  inflicted  upon  the  poorer 
and  middle  ranks  of  our  people,  the  land  filled  with  fraud,  embezzle- 
ment, bankruptcy,  crime,  suffering,  pauperism,  and  starvation;  and 

Whereas,  This  state  of  things  has  been  brought  about  bv  legis- 
lation in  the  interest  of  and  dictated  by  money-lenders,  bankers,  and 
bondholders;   and 

Whereas,  The  limiting  of  the  legal-tender  quality  of  greenbacks, 
the  changing  of  currency  bonds  into  coin  bonds,  the  demonetization 
of  the  silver  dollar,  the  excepting  of  bonds  from  taxation,  the  con- 
traction of  the  circulation  medium,  the  proposed  forced  resumption 
of  specie  payments  were  crimes  against  the  people,  and,  as  far  as 
possible,  the  results  of  these  criminal  acts  must  be  counteracted  by 
judicious  legislation; 

Therefore,  We  assemble  in  National  Convention,  and  make  a 
declaration  of  our  principles,  and  invite  all  patriotic  citizens  to  unite 
in  an  effort  to  secure  financial  reform  and  industrial  emancipation. 
The  organization  shall  be  known  as  the  "National  Party,"  and  under 
this  name  we  will  perfect,  without  delay,  national.  State,  and  local 
associations  to  secure  the  election  to  office  of  such  men  onlv  as  will 
pledge  themselves  to  do  all  in  their  power  to  establish  these  principles: 

First:  It  is  the  exclusive  function  of  the  General  Government  to 
coin  and  create  money,  and  regulate  its  value.  All  bank  issues  de- 
signed to  circulate  as  money  should  be  suppressed.  The  circulating 
medium,  whether  of  metal  or  paper,  shall  be  issued  by  the  government, 
and  made  a  full  legal  tender  for  all  debts,  duties,  and  taxes  in  the 
United  States  at  its  stamped  value. 

Second:  There  shall  be  no  privileged  class  of  creditors.  Official 
salaries,  pensions,  bonds,  and  all  other  debts  and  obligations,  public 
and  private,  shall  be  discharged  in  the  legal-tender  money  of  the 
United  States,  strictly  according  to  the  stipulations  of  the  laws  under 
which  they  were  contracted. 

Third:  Resolved,  That  the  coinage  of  silver  be  placed  on  the  same 
footing  as  that  of  gold. 

Fourth:  Congress  shall  provide  said  money  adequate  to  the  full 
employment  of  laljor,  the  equitaljle  distribution  of  its  products,  and 
the  requirements  of  business,  fixing  a  minimum  amount  per  capita 
of  the  population,  and  otherwise  regulating  its  value  by  wise  and 


I9»  PRINCII'LKS  OF  MONEY  AND  HANKING 

equitable  provisions  of  law,  so  that  the  rate  of  interest  will  secure  to 
labor  its  just  reward. 

112.    THE  POPULIST  PARTY   PLATFORM   OF   1896 

1.  We  demand  a  national  money,  safe  and  sound,  issued  by  the 
General  Government  only,  without  the  intervention  of  banks  of  issue, 
to  be  a  full  legal  tender  for  all  debts,  public  and  private;  a  just, 
equitable,  and  efficient  means  of  distribution  direct  to  the  people 
and  through  the  lawful  disbursements  of  the  Government. 

2.  We  demand  the  free  and  unrestricted  coinage  of  silver  and 
gold  at  the  present  legal  ratio  of  16  to  i,  without  waiting  for  the 
consent  of  foreign  nations. 

3.  We  demand  that  the  volume  of  circulating  medium  be  speedily 
increased  to  an  amount  sufficient  to  meet  the  demands  of  business 
and  population,  and  to  restore  the  just  level  of  prices  of  labor  and 
production. 

113.    A  REVIVAL  OF  "GREENBACKISM"' 

An  incident  of  crucial  significance  in  connection  with  the  eflort  for 
banking  reform  is,  however,  seen  in  the  well-authenticated  attempt  of 
Mr.  William  J.  Bryan  to  secure  the  adoption  by  members  of  the  Demo- 
cratic party  in  Congress  of  a  banking  plan  of  his  own  in  opposition  to 
each  and  all  of  the  various  rival  banking  plans  that  have  been  thus 
far  suggested.  Mr.  Bryan's  plan  relates  almost  entirely  to  the  issue 
of  notes.  He  desires  to  have  the  power  of  note  issue  placed  exclu- 
sively in  the  hands  of  the  government,  and  would  require  that,  in 
order  to  get  notes,  banks  be  compelled  to  make  a  showing  that  they 
possess  an  adequate  amount  of  commercial  paper  of  specified  kinds. 
When  this  had  been  demonstrated  to  the  satisfaction  of  the  designated 
local  officers,  the  government  would  deposit  in  the  bank  making  the 
application  circulating  notes  to  an  amount  equal  to  that  for  which 
the  bank  had  made  application.  These  notes  would  be  redeemable 
at  the  Treasury  and  would  constitute  a  single  uniform  government 
currency.  On  the  whole,  the  plan  thus  suggested,  although  refined 
in  various  particulars  as  compared  with  the  various  Bryan  plans  that 
have  been  urged  in  the  past,  is  a  revival,  under  a  different  name,  of 
the  orginal  greenback  or  government  legal-tender-currency  idea  that 

'Adapted  from  "Washington  Notes"  in  Journal  of  Political  Economy,  Jan- 
uary, 1913,  pp.  75-76. 


THE  STANDARD  QUESTION:  PAPER  MONEY  199 

has  figured  so  largely  in  times  past  in  connection  with  the  proposals 
of  the  radical  wing  of  the  Democratic  party. 

114.    NATURAL  MONEY,  THE   PEACEFUL  SOLUTION' 
By  JOHN  RAYMOND   CUMMINGS 

The  adoption  of  a  system  of  natural  money  such  as  is  suggested 
below  will  accomplish  the  following  ends: 

1.  It  will  make  panics  impossible. 

2.  It  will  enable  the  government  to  take  over  all  the  land  and 
all  the  privately  owned  public  utilities  on  terms  very  liberal  to  present 
owners,  without  issuing  a  bond  and  without  hardship  or  injustice. 

3.  It  will  enable  the  government  to  build  during  the  same  period 
a  million  miles  of  highway  at  a  cost  of  S  10,000  the  mile. 

4.  To  irrigate  and  drain  a  large  proportion  of  the  area  needing 
irrigation  and  drainage.  ' 

5.  To  develop  tens  of  millions  of  horse-power  from  water  and 
distribute  it  throughout  the  country. 

6.  To  develop  internal  waterways  on  a  scale  hitherto  unattempted 
and  undreamed  of. 

7.  It  will  raise  wages  and  end  strikes  and  lockouts.  It  will 
establish  natural  wages  and  secure  absolute  equity  as  between  em- 
ployers and  employees. 

8.  It  will  pay  off  the  government  debt  and  make  future  debt 
impossible. 

9.  It  will  end  our  present  industrial  warfare  and  bring  all  now 
discordant  classes  into  harmonious  co-operation,  inaugurating  an  era  of 
progress  and  prosperity  such  as  the  world  has  not  even  conceived  of. 

For  our  purpose  we  will  assume  an  isolated  community  of  a 
thousand  men  and  their  families.  We  will  assume  that  our  colonists 
brought  with  them  a  limited  amount  of  gold  and  silver,  and  that 
they  have  no  thought  of  inventing  or  adopting  any  other  than  the 
coin  system  with  which  they  have  been  faniiUar,  but  they  do  intend 
to  build  a  substantial  community  and  desire  to  have  an  orderly  and 
efl&cient  government,  with  the  largest  possible  measure  of  public 
benefits  and  of  personal  freedom. 

Let  us  assume  that  they  arrive  in  a  body  in  the  earl)-  spring,  and 
that  for  the  time  being  they  decide  that  all  work  shall  be  communal. 

'  Adapted  from  Natural  Money,  The  Peaceful  Solution  (summarized  from 
various  chapters).    (Bankers  Publishing  Co.,  191 2.) 


200  PRINCIPLES  OF  MONEY  AND  BANKING 

They  must  have  enough  houses  for  protection  before  the  commg 
winter  and  must  grow  food  and  provender,  so  they  decide  that  those 
who  are  handy  with  the  broadax,  saw,  and  hammer  shall  assist  the 
few  artisans  in  the  building  of  houses,  while  the  other  men,  with  the 
assistance  of  some  of  the  women  and  the  youths,  shall  grow  the  crops. 
But  it  is  understood  that  when  there  are  houses  for  all,  the  work  is 
to  be  individualistic,  except  for  such  work  as  is  of  a  public  character. 

When  they  have  reached  the  point  of  individual  work  they  hold 
a  meeting  and  decide  that  each  man  of  voting  age  shall  render  thirty 
days'  public  service  yearly  or  pay  the  equivalent  into  the  public 
treasury,  and  shall  be  subject  to  call  for  from  one  to  thirty  days 
additional. 

Many  individuals  rather  than  perform  this  public  service  would 
prefer  to  hire  substitutes  in  order  to  save  their  own  time  for  the 
private  employments  in  which  they  are  particularly  efl&cient.  The 
payment  for  substitutes  establishes  a  minimum  common  labor  wage. 
In  the  beginning  a  man  who  desired  a  substitute  made  arrangements 
with  him  and  notified  the  overseer  of  public  works,  giving  the  name 
of  his  substitute.  The  overseer  gave  the  receipts  accordingly  to  the 
workman,  who  delivered  them  to  his  employer  and  received  his  pay; 
but  after  a  time,  probably  to  save  work  in  making  the  receipts,  they 
used  printed  blanks  requiring  only  the  filhng  in  of  the  worker's  name 
and  the  overseer's  stamped  signature.  These  each  worker  delivered 
to  his  employers — the  men  whose  public  service  he  had  engaged  to 
work  out.  The  substitutes  at  first  took  the  receipts  in  the  names  of 
their  various  employers,  one  laborer  doing  the  public  work  for  several 
individuals. 

Still  later  even  this  was  found  to  be  unnecessary,  for  it  involved 
personal  engagements  to  perform  the  service,  and  subsequent  settle- 
ments of  each  worker  with  his  employers.  Perhaps  by  the  accident 
of  some  workman 's  failure  to  settle  with  his  employers  at  the  usual 
time;  possibly  by  the  natural  and  necessary  development  of  the 
situation,  the  workmen  came  to  be  quite  indifferent  and  careless  as 
to  settlements  and  used  the  receipts  with  the  grocer,  the  butcher, 
the  merchant,  in  fact,  everywhere  they  had  dealings. 

But  most  of  the  receipts  were  for  a  week's  work,  only  a  few  of 
them  being  for  a  less  amount,  so  after  a  time,  on  the  suggestion  of  a 
committee  of  the  workmen,  the  receipts,  or  certificates,  as  they  were 
commonly  called,  were  given  in  various  denominations,  from  the 
fourth  part  of  a  day  to  one,  two,  two-and-a-half,  and  five-day  cer- 


THE  STANDARD  QUESTION:  PAPER  MONEY  201 

tificates,  and  were  printed  on  their  best  paper  and  as  ornamentally 
as  their  facilities  allowed. 

Very  soon  after  this  was  done  the  certificates  constituted  the 
larger  part  of  the  circulating  medium  and  the  people  realized  that 
unwittingly  they  had  invented  a  new  money.  Gradually  as  the  vol- 
ume of  the  certificates  increased,  the  gold  disappeared  from  circu- 
lation and  silver  was  used  only  as  fractional  currency.  Coin  did  not 
disappear  by  "emigration"  nor  by  hoarding,  but  by  finding  its  way 
into  the  public  treasury  and  remaining  there  because  people  preferred 
the  certificates. 

Let  it  be  noted  that  these  certificates  were  not  "promises 
to  pay,"  nor  were  they  money  in  any  legal  sense;  not  legal  tender, 
yet  they  performed  all  the  functions  of  money.  Probably  no  one  of 
the  colonists  ever  so  much  as  thought  of  providing  by  ordinance  that 
anything  should  be  a  legal  tender. 

Thus  this  money  based  on  service  performed  came  naturally  to 
be  the  medium  of  e.xchange  without  anyone  even  raising  a  question 
as  to  its  soundness  or  safety.  The  certificates  passed  current  on  the 
same  basis  as  coin  (a  full-day  certificate  as  $2.00).  A  purchase  of 
goods  from  a  foreign  community,  however,  raised  the  question  as  to 
the  safety  of  the  certificates.  It  was  proposed  to  use  the  coin  that 
had  accumulated  in  the  government  vaults  in  the  purchase  of  the 
foreign  goods,  and  this  at  once  provoked  discussion  as  to  the  basis  of 
the  circulation  power  of  the  certificates.  Some  thought  that  ever\- 
currency  should  have  a  coin  basis,  and  the  banker  thought  that  the 
coin  in  the  community  had  really  ser^'ed  as  a  basis  for  the  certificates, 
which  passed  as  token  money  upon  the  tacit  understanding  of  a 
return  to  coin  at  any  time  the  certificates  might  prove  unsatisfactory. 
He  was  very  sure  a  crisis  would  come  before  long  if  the  coin  were 
sent  away.  He  raised  the  question  of  limiting  the  issue  of  certificates, 
and  soon  it  was  evident  that  this  was  the  crux  of  the  whole  question. 
How  to  limit  them  had  never  been  considered,  and  now  it  was  evident 
that  this  was  the  one  point  to  be  made  sure  of — if  it  could  be. 

A  board  of  experts  to  determine  the  limit  was  suggested,  but 
discussion  indicated  that  a  board  could  not  tell  how  much  money  was 
needed  any  better  than  a  single  expert  could;  that  in  the  very  nature 
of  things  the  amount  of  currency  required  cannot  be  settled  abstractly, 
but  is  governed  only  by  the  demands  of  trade. 

A  perfect  currency  is  not  only  elastic  in  the  sense  that  it  will 
expand  to  the  fullest  requirements  of  trade,  but  it  is  as  perfect  in 


202  PRINCIPLES  OF  MONEY  AND  BANKING 

resiliency,  for  no  matter  to  what  extent  it  has  been  expanded  by 
temporary  demand,  it  will  contract  as  demand  abates. 

But  all  this  change  must  be  automatic,  and  not  by  the  dictum 
of  any  man  or  any  number  of  men;  not  even  by  the  unanimous  vote 
of  all  concerned.  But  how  shall  we  arrange  so  to  regulate  the  quan- 
tity of  our  money  that  its  value  shall  remain  constant  ?  The  answer 
is  simple  enough.  Hitherto  we  have  been  requiring  from  each  male 
citizen  of  voting  age  thirty  to  sixty  days  of  public  service  each  year, 
for  which  receipts  have  been  given.  These  receipts  were  not  payments 
for  service  but  acknowledgments  of  service  due  and  rendered.  This 
little  government  does  not  pay  for  anything.  It  receives  what  is 
due  it  and  gives  receipts.  These  receipts  pass  current  because,  being 
impersonal,  anyone  who  is  prepared  to  surrender  them  to  the  amount 
of  his  services  due  is  thereby  discharged  of  his  obligation;  shows  that 
he  has  rendered  the  service  personally  or  by  proxy.  By  surrendering 
them  he  designates  for  credit  to  his  own  account  that  part  of  public 
service  for  which  the  certificates  were  issued;  and  the  certificates 
go  back  to  be  canceled  or  to  be  reissued  in  acknowledgment  of  further 
service. 

But  hitherto  we  have  done  only  such  public  work  as  estimates 
called  for  without  any  reference  to  creating  a  circulating  medium, 
and  if  this  has  given  us  the  proper  amount  to  use  as  money  it  is  sim- 
ply a  happy  accident.  There  is  one  way  and  only  one  way  to  deter- 
mine how  much  public  work  should  be  done,  and  that  is  to  provide 
employment  for  all  who  cannot  be  more  profitably  engaged  in  private 
employment. 

Naturally  you  will  ask  how  this  can  be  done.  It  is  very  simple, 
as  most  great  truths  are.  All  the  change  we  need  to  make  in  our 
present  method  is  an  ordinance  authorizing  and  commanding  the 
board  of  public  works  to  employ  all  unskilled  laborers  who  apply,  at 
two  certificates  per  day  (as  we  have  been  giving),  and  as  many  skilled 
laborers  as  may  be  needed,  at  such  compensation  as  is  necessary  to 
secure  the  number  required.  While  I  do  not  think  it  important,  it 
may  be  well  for  technical  reasons  to  provide  in  the  ordinance  that 
the  certificates  shall  be  legal  tender. 

The  way  in  which  this  plan  will  work  to  accomplish  what  we  seek 
is  this:  If  at  any  time,  for  any  reason  whatsoever,  more  than  the 
natural  proportion  of  labor  had  gone  into  public  work,  there  would 
then  be  less  than  the  natural  production  of  private  wealth,  and  prices 
of  commodities  would  be  above  normal  because  of  relative  scarcity. 


THE  STANDARD  QUESTION:   PAPER  MONEY  20;, 

Private  employers  would  then  offer  somewhat  more  than  the  public 
wage,  thus  drawing  la])or  away  from  the  {)ublic  service  and  restoring 
the  state  of  balance.  On  the  other  hand,  should  more  than  the  nat- 
ural proportion  of  labor  be  engaged  in  private  production  the  prices 
of  commodities  would  fall  because  of  their  abundance.  Some  of  the 
privately  employed  labor  would  then  be  released  and  would  go  into 
public  work,  restoring  the  balance.  In  fact,  there  will  be  no  notice- 
able shifting  from  private  to  public  employment  and  back  again, 
except  of  those  whose  private  employment  is  seasonal  in  character. 
The  state  of  balance  will  be  preserved  just  as  the  water  level  in  two 
connected  reservoirs,  each  having  variable  supply,  is  preserved,  by 
flow  of  the  water  from  one  to  the  other. 

In  a  large  community,  one  of  many  millions,  my  opinion  is  that 
there  would  be  no  noticeable  shifting  from  public  to  private  work 
and  back  again,  except  of  those  laborers  who  habitually  do  so  because 
of  the  irregular  character  of  their  private  employment.  Indeed,  we 
may  find  that  except  for  those  intermittent  workers  there  will  be 
no  shifting.  I  suspect  the  ultimate  development  will  be  that  most 
young  men  will  serve  an  apprenticeship  in  public  work,  and  the 
currency  volume  will  be  adjusted  by  the  slightly  var}-ing  average 
time  they  remain.  This  apprenticeship  work,  if  it  all  goes  into  the 
public  service  temporarily,  should  be  a  very  accurate  gauge  or  index 
of  the  currency,  for  if  we  can  imagine  a  perfectly  even  standard  of 
business,  that  is,  unvarying  prosperity,  the  demand  for  money  should 
be  in  proportion  to  the  number  of  producers,  and  the  apprentices  are 
the  enlisting  force  in  the  industrial  army. 

On  the  other  hand,  if  there  should  ever  be  too  many  certificates 
in  circulation  their  value  would  fall  slightly,  or  business  would  become 
more  brisk  at  prevailing  prices  and  workers  would  be  drawn  from 
public  to  private  employment  (not  many  but  a  few)  and  cancellation 
by  payment  of  taxes  would  bring  about  adjustment. 

To  summarize  this  system  of  natural  money:  The  ideal  money  is 
redeemable  by  service.  It  is  because  all  the  individuals  of  a  nation 
owe  services  to  the  government  and  because  the  surrender  of  the 
currency  cancels  that  service,  that  they  receive  it  in  exchange  for 
goods.  The  last  person  who  gives  service  or  goods  in  exchange 
for  such  money,  and  then,  instead  of  having  it  redeemed  again,  turns 
it  in  to  pay  his  taxes,  has  given  it  its  final  redemption.  It  is  not  the 
function  of  government  to  redeem  money.  The  money  is  not  a 
governmental  debt,  but  the  government's  receipt  for  a  debt  paid, 


204  PRINCIPLES  OF  MONEY  AND  BANKING 

and  there  is  no  obligation  on  the  part  of  the  government  except  to 
acknowledge  it  as  such  receipt  and  receive  it  in  lieu  of  service. 

D.    The  Regulation  of  Government  Paper  Currency 
115.    METHODS  OF  REGULATING  GOVERNMENT  PAPER 

The  following  methods  have  been  used  in  regulating  the  issues 
of  government  paper  currency: 

1.  Full  specie  reserve  method. — By  this  method  the  issuing  govern- 
ment retains  in  its  coffers  metallic  money  equal  in  amount  to  the 
paper  issued.  The  paper  is  thus  a  true  representative  currency, 
ser\'ing  merely  in  lieu  of  so  much  specie. 

2.  Percentage  specie  reserve  method. — With  this  method  a  specie 
reserve  equal  to  a  certain  fixed  percentage  of  the  paper  must  be  held 
by  the  issuer.  The  amount  of  paper  may  be  changed  with  changes 
in  the  amount  of  reserve. 

3.  Minimum  specie  reserve  method. — A  certain  fixed  minimum 
quantity  of  specie  is  held  as  reserve,  and  the  paper  outstanding 
against  this  may  or  may  not  be  increased  or  decreased. 

4.  The  uncovered  issue  method. — A  certain  fixed  amount  of  paper 
may  be  issued,  secured  by  bonds,  etc.,  and  beyond  this  amount  any 
quantity  may  be  issued  if  backed  by  a  full  specie  reserve. 

5.  The  elastic  uncovered  issue  method. — This  method  differs  from 
the  above  only  in  that  the  uncovered  issue  may  be  extended  in  time 
of  emergency. 

6.  Property  reserve  method. — Land  or  other  real  estate,  or  per- 
sonalty such  as  bonds,  stocks,  etc.,  may  be  used  as  security  for  gov- 
ernment paper  currency. 

7.  Revenue  payments  method. — A  free  issue  of  paper  money 
which  relies  on  its  acceptability  for  taxes  in  lieu  of  coin  to  keep 
up  its  value. 

8.  The  deferred  convertibility  method. — Notes  may  be  issued  prom- 
ising to  pay  metallic  money  at  some  future  date,  either  definitely 
fixed,  or  dependent  upon  political  or  other  contingent  events. 

9.  Fiat  method. — The  government  may  give  freely  issued  paper 
full  legal-tender  power  and  command  its  acceptance  in  payment  of 
all  obligations.    It  is  irredeemable. 

ID.  Limited  issue  method. — The  issue  may  be  definitely  restricted 
in  amount  in  order  that  an  active  demand  may  prevent  depreci- 
ation. 


THE  STANDARD  QUESTION:   PAPER  MONEY  205 

II.  Force  of  habit  method. — An  issue  once  redeemable  may  cir- 
culate by  force  of  custom  after  the  government  has  been  absolved 
from  the  obligation  of  redemption. 

116.    IRREDEEMABLE  PAPER  ALWAYS  BAD' 
By  JOHN  WITHERSPOON 

Irredeemable  paper  money  such  as  was  issued  by  the  Continental 
Congress  and  the  various  state  legislatures  during  the  Revolution, 
that  is,  paper  bills  stating  that  the  person  holding  them  is  entitled 
to  receive  a  certain  sum  specified  in  them,  is  not,  properly  speaking, 
money  at  all.  It  is  barely  a  sign  without  being  a  pledge  or  standard 
of  value,  and  therefore  is  essentially  defective  as  a  medium  of  universal 
commerce.  To  arm  such  bills  with  the  authority  of  the  state,  and 
make  them  a  legal  tender  in  all  payments,  is  an  absurdity  so  great 
that  it  is  not  easy  to  speak  with  propriety  upon  it.  Perhaps  it  would 
give  offense  if  I  should  say  it  is  an  absurdity  reserved  for  American 
legislatures,  no  such  thing  having  even  been  attempted  in  the  old 
countries.  It  has  been  found,  by  the  experience  of  ages,  that  money 
must  have  a  standard  of  value,  and  if  any  prince  or  state  debase 
the  metal  below  the  standard,  it  is  utterly  impossible  to  make  it 
succeed.  How  can  it  be  possible  to  make  that  succeed  which  has  no 
value  at  all  ?  In  all  such  instances  there  may  be  great  injuries  done 
to  particular  persons  by  wiping  off  debts;  but  to  give  such  money 
general  currency  is  wholly  impossible.  The  measure  carries  absurdity 
in  its  very  face.  Why  will  you  make  a  law  to  oblige  men  to  take 
money  when  it  is  offered  them  ?  Are  there  any  who  refuse  it  when 
it  is  good  ?  If  it  is  necessary  to  force  them,  does  this  not  demonstrate 
that  it  is  not  good?  We  have  seen  indeed  this  system  produce  a 
most  ludicrous  inversion  of  the  nature  of  things.  For  two  or  three 
years  we  constantly  saw  and  were  informed  of  creditors  running 
away  from  their  debtors  and  the  debtors  pursuing  them  in  triumph, 
and  paying  them  without  mercy. 

1x7.    PAPER  MONEY  SOUND  IN  THEORY* 
By  DAVID  RICARDO 

By  limiting  the  quantity  of  money  it  can  be  raised  to  any  con- 
ceivable value.    It  is  on  this  principle  that  paper  money  circulates; 

'Adapted  from  Works,  IV,  222-23.  (Philadelphia:  William  W.  Woodward, 
1802.) 

'  Adapted  from  Principles  of  Political  Economy  and  Taxation,  1818  (Con- 
ner's edition),  pp.  341-44. 


2o6  PRINCIPLES  OF  MONEY  AND  BANKING 

the  whole  charge  for  paper  money  may  be  considered  as  seignorage. 
Though  it  has  no  intrinsic  value,  yet  by  limiting  its  quantity,  its 
value  in  exchange  is  as  great  as  an  equal  denomination  of  coin,  or 
of  bullion  in  that  coin.  There  is  no  point  more  important  in  issuing 
paper  money  than  to  be  fully  impressed  with  the  effects  which  follow 
from  the  principle  of  limitation  of  quantity.  It  is  not  necessary  that 
paper  money  should  be  payable  in  specie  to  secure  its  value;  it  is 
only  necessary  that  its  quantity  should  be  regulated  according  to  the 
value  of  the  metal  which  is  declared  to  be  the  standard. 

Experience,  however,  shows  that  neither  a  State  nor  a  Bank 
ever  has  had  the  unrestricted  power  of  issuing  paper  money,  without 
abusing  that  power;  in  all  States,  therefore,  the  issue  of  paper  money 
ought  to  be  under  some  check  and  control;  and  none  seems  so  proper 
for  that  purpose  as  that  of  subjecting  the  issuers  of  paper  money  to 
the  obligation  of  paying  their  notes,  either  in  gold  coin  or  in  bullion. 

ii8.    GUIDES  FOR  THE  CONTROL  OF  PAPER  MONEY^ 
By  CHARLES   GIDE 

It  may  be  asserted  that  in  the  present  state  of  economic  science 
there  is  no  excuse  for  a  government  overstepping  the  limit  and  issuing 
irredeemable  paper  money  in  excess.  There  are  several  signs,  familiar 
to  the  economist  and  the  financier,  which  should  warn  us  of  the 
danger,  even  when  it  is  far  off,  and  which  are  surer  indications  than 
the  pilot  obtains  from  sounding-lead  and  landmarks. 

1.  The  first  of  these  signs  is  the  premium  for  gold.  As  soon  as 
paper  money  has  been  issued  in  quantities  too  great  for  the  needs 
of  a  community,  it  begins  (by  virtue  of  the  universal  law  of  value) 
to  be  depreciated;  the  first  effect  of  this  depreciation,  the  first  sign 
that  that  is  coming,  although  the  general  public  may  not  be  aware 
of  it,  is  that  metallic  money  begins  to  command  a  premium. 

2.  The  second  sign  is  a  rise  in  the  rate  of  exchange.  Bills  payable 
abroad,  i.e.,  foreign  bills  of  exchange,  are  sold  in  all  the  great  com- 
mercial centers  of  the  world.  Like  any  other  commodity,  they  have 
a  market  price  that  is  quoted  at  the  stock  exchange;  this  is  called 
the  rate  of  exchange.  These  bills,  or  claims  on  foreign  countries, 
are  always  payable  in  gold  or  silver,  generally  in  gold,  because  gold 
is  the  international  money.  If,  for  example,  the  United  States  is 
under  a  paper-money  system  and  its  paper  begins  to  be  depreciated, 

'Adapted  from  Principles  of  Political  Economy,  1888  (Veditz  translation), 
pp.  270-73.    (By  permission  of  D.  C.  Heath  &  Co.,  who  hold  the  copyright.) 


THE  STANDARD  QUESTION:  PAPER  MONEY  207 

bills  on  London  or  Paris  will  rise  in  price  just  like  gold  itself,  since 
they  are  in  fact  equivalent  to  gold. 

3.  The  third  sign  is  the  flight  of  metallic  money.  However  slight 
the  depreciation  of  paper  money  may  be  (and  unless  this  defect  is 
immediately  remedied  by  the  withdrawal  of  the  excessive  paper),  all 
metallic  money  will  speedily  disappear  from  a  country.  This  phenom- 
enon is  invariable  and  therefore  characteristic;  it  occurs  in  all  coun- 
tries where  paper  money  has  been  issued  in  excess. 

4.  The  fourth  sign  is  a  rise  in  prices.  This  appears  later  on,  and 
shows  that  the  evil  has  already  become  a  grave  one,  and  that  the 
permissible  limit  has  been  greatly  exceeded.  While  the  depreciation 
is  still  slight,  say  2  or  3  per  cent,  prices  (except  those  of  the  precious 
metals)  are  not  affected.  Retail  dealers,  and  even  wholesale  dealers, 
will  not  alter  prices  for  so  trifling  a  difference  as  this;  and  even  if 
they  did  so,  the  public  would  not  worry  about  it.  But  whenever  the 
depreciation  of  paper  money  reaches  10,  15,  or  20  per  cent,  then  all 
tradesmen  and  all  producers  raise  their  prices  correspondingly.  The 
evil,  which  until  then  has  been  latent,  suddenly  bursts  forth  and  is 
revealed  to  all. 

5.  Finally,  we  must  note  that  the  old  prices  continue  the  same  for 
those  persons  who  can  pay  in  metallic  money,  if  there  is  any  of  it 
left.  For  metallic  money  has  lost  none  of  its  former  value;  on  the 
contrary,  compared  with  paper  money  it  has  gained.  Hence  we 
observe  the  curious  phenomenon  of  two  different  sets  of  prices  for 
commodities.  Every  article  now  has  two  prices,  one  payable  in 
metallic  money,  the  other  in  paper  money.  The  difference  between 
the  two  prices  exactly  measures  the  depreciation  of  the  paper  moncv. 

As  soon,  therefore,  as  a  government  perceives  the  premonitory 
signs,  namely,  a  premium  for  gold  and  a  rise  in  the  rate  of  exchange, 
its  first  duty  is  absolutely  to  forbid  the  emission  of  any  more  paper 
money,  since  the  extreme  limit  has  already  been  reached.  If  this 
limit  has  unfortunately  been  overstepped,  and  we  discover  the  omi- 
nous symptom  of  double  prices,  it  must  endeavor  to  retrace  its  steps 
and  destroy  the  paper  money  that  returns  to  the  public  treasury 
until  there  is  the  right  amount  in  circulation.  Such  a  heroic  remedy 
as  this,  however,  involving  the  partial  suppression  of  the  national 
revenue,  is  not  within  the  power  of  all  governments.  They  cannot 
resort  to  it  unless  they  can  afford  to  sacrifice  a  part  of  their  revenue; 
in  other  words,  the  public  revenue  must  be  in  excess  of  public  ex- 
penditures. 


2o8  PRINCIPLES  OF  MONEY  AND  BANKING 

119.    PAPER  MONEY  AND  THE  FOREIGN  EXCHANGES' 

By   FRANCIS  A.   WALKER 

One  of  the  most  important  phases  of  the  subject  of  paper  money 
is  its  relation  to  the  International  Exchanges.  By  the  mere  fact  of 
the  adoption  of  this  kind  of  money,  a  country  loses  all  the  advantages 
of  an  automatic  regulation  of  the  money  supply  through  the  normal 
movements  of  trade.  Paper  money  finds  no  outlet  in  international 
commerce.  It  cannot  be  exported  and  retain  its  value.  Hence  its 
regulation  becomes  purely  mechanical.  Having  no  natural  cost  of 
production,  it  will  not,  if  in  excess  in  any  country,  flow  away  in  obedi- 
ence to  the  law  which  governs  the  distribution  of  a  money  having 
acceptance  abroad  equally  as  at  home;  but,  if  issued  in  excess,  it 
can  only  be  removed  by  being  pumped  out  by  the  same  force  which 
originally  issued  it,  at  least  until  the  stage  of  utter  popular  repudiation 
is  reached. 

Even  where  the  excess  of  such  paper  money  over  what  would  have 
been  that  country's  distributive  share  of  the  world's  money  be  not 
enough  to  produce  grave  disturbances  of  domestic  industry,  the 
effect  on  foreign  trade  will  yet  be  momentous.  The  immediate  result 
of  any  excess  must  be  to  establish  a  premium  upon  that  metallic 
money  in  which  alone  foreign  balances  can  be  paid. 

To  one  who  is  not  familiar  with  the  largest  operations  of  com- 
merce this  may  seem  a  small  matter;  yet  if  we  may  trust  those  who 
are  best  qualified  to  decide  such  questions,  the  money  of  a  commercial 
state  cannot  depart,  even  by  the  narrowest  interval,  from  the  money 
in  which  international  balances  are  discharged,  without  creating 
obstructions,  exciting  apprehensions,  and  even  occasioning  losses,  to 
which  modern  trade,  with  its  highly  developed  and  acutely  sensitive 
organization,  will  not  submit,  or  will  do  so  only  upon  the  payment  of 
heavy  fines  by  the  offending  community. 

During  the  German  War,  and  for  some  years  after,  viz.,  from 
187 1  to  1877,  the  notes  of  the  Bank  of  France  were  inconvertible; 
yet  such  was  the  sagacity  and  prudence  of  the  directors  of  that 
institution  that  at  no  time  was  there  any  considerable  discount  on 
that  money,  the  premium  on  gold  often  being  but  a  small  fraction 
of  I  per  cent.  Yet,  slight  as  was  the  disturbance  of  the  domestic 
circulation  thereby  produced,  Mr.  Bagehot,  in  his  standard  work, 

'  Adapted  from  Political  Economy,  pp.  173-74.    (Henry  Holt  &  Co.,  1883.) 


THE  ST/VNDARD  QUESTION:  PAPER  MONEY  209 

Lombard  Street,  written  during  the  period  of  suspension,  attributes 
to  it  the  most  momentous  consequences. 

"The  note  of  the  Bank  of  France,"  he  says,  "has  not,  indeed, 
been  depreciated  enough  to  disorder  ordinary  transactions.  But  any 
depreciation,  however  small,  even  the  liability  to  depreciation,  with- 
out its  reality,  is  enough  to  disorder  exchange  transactions.  They 
are  calculated  to  such  an  extremity  of  fineness,  that  the  change  of  a 
decimal  may  be  fatal,  may  turn  a  profit  into  a  loss.  Accordingly 
London  has  become  the  sole  great  settling  house  of  exchange  trans- 
actions in  Europe,  instead  of  being,  as  formerly,  one  of  two." 


VI 

THE  STANDARD  QUESTION:    THE  SILVER 
MOVEMENT  IN  THE  UNITED  STATES 

Introduction 

The  discussion  of  bimetallism  in  chapter  iv  ended,  so  far  as  the 
United  States  was  concerned,  with  the  year  1873.  The  present  chap- 
ter is  a  continuation  of  our  bimetallic  history  and  treats  of  the  acute 
stage  of  the  controversy  that  followed  close  upon  the  general  demone- 
tization of  silver  by  the  leading  countries  of  the  world.  The  reason 
for  having  broken  the  continuity  of  the  discussion  by  introducing 
the  chapter  on  paper  money  is  that  in  the  United  States  the  "green- 
backers"  and  the  "silverites"  possessed  in  many  respects  a  common 
philosophy — actually  joining  forces,  in  the  main,  after  1878.  An 
understanding  of  the  greenback  movement  is,  therefore,  essential  to 
an  appreciation  of  the  last  stage  in  the  bimetallic  controversy  in 
this  country. 

The  silver  movement  began  about  1875,  when  it  was  discovered 
that  the  standard  silver  dollar  was  no  longer  coinable  at  the  mints. 
For  many  years  prior  to  1873,  when  the  silver  dollar  was  dropped  from 
the  list  of  coins  that  might  be  struck,  the  legal  ratio  of  silver  to  gold 
had  been  16  to  i  while  the  market  ratio  was  around  15.6  to  i.  There 
was  consequently  no  incentive  to  coin  silver,  and  none  had  in  fact  been 
coined  for  generations,  except  a  small  quantity  for  use  in  oriental 
trade.  But  when  silver  fell  in  value  in  1874  and  1875  so  that  the 
market  ratio  became  16+  to  i,  it  was  promptly  presented  to  the 
mints  for  coinage,  where  minting  into  standard  silver  dollars  was  of 
course  refused.  Immediate  indignation  was  aroused ;  it  appeared  that 
the  "surreptitious"  demonetization  of  silver  that  had  occurred  was 
nothing  short  of  a  vicious  crime  engineered  by  and  in  the  interests 
of  the  gold  conspirators.  By  a  single  act  of  Congress,  unknown 
to  and  unsanctioned  by  the  general  public,  it  seemed  that  the  country 
as  a  whole  had  been  deprived  of  a  large  portion  of  its  national 
wealth.  The  controversy  over  this  act  of  1873  was  bitterly  waged 
for  more  than  twenty  years. 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       211 

The  silver  party,  so  called,  was  composed  of  numerous  elements, 
with  differing  points  of  view,  but  imbued  with  a  common  purpose  of 
securing  the  recoinage  of  silver.  In  this  movement  the  problem  of 
deferred  payments  became,  even  on  the  popular  side,  more  or  less 
differentiated  from  the  mere  question  of  the  volume  of  money.  It 
appears  to  have  been  very  clearly  appreciated  that  the  fall  in  prices 
following  the  war  was  rendering  the  repayment  of  mortgages  and 
other  long-time  obligations  annually  more  difficult;  and  the  issue 
between  the  debtor  and  the  creditor  classes,  as  shown  in  numerous 
selections  below,  was  bitterly  contested.  One  cannot  fail  to  be 
impressed  with  the  sincerity  of  conviction  manifested  on  both  sides; 
and  it  is  a  matter  of  much  significance,  as  well  as  interest,  that  prac- 
tically every  class,  even  the  economists,  became  largely  imbued  with 
a  partisan  spirit,  and  very  generally  impugned  the  motives  of  the 
opposition;   the  very  air  seemed  charged  with  feeling. 

The  result  of  the  silver  agitation  was  to  secure  a  limited  coinage 
of  silver  and  thereby  to  derange  our  monetary  system  for  nearly 
twenty  years.  It  must  be  said  in  justice  to  the  advocates  of  bimetal- 
lism, however,  that  the  system  did  not  have  a  real  trial  during  this 
period;  and  their  contention  in  the  nineties  that  a  larger  rather  than 
a  smaller  coinage  of  silver  was  needed  may  easily  be  justified,  granting 
the  premise  of  the  bimetallic  argument.  The  state  of  our  currency 
under  the  Bland-Allison  and  Sherman  acts  served  one  useful  function, 
however:  it  demonstrated  as  nothing  else  could  have  done  the  work- 
ing of  monetary  principles  and  the  evils  of  an  uncertain  standard  of 
deferred  payments. 

The  issues  of  1896  appear  to  have  been  settled  by  the  geograph- 
ical distribution  of  our  population  and  the  relative  numerical  strength 
of  the  opposing  interests,  rather  than  by  logic  or  virtue  or  honesty 
or  devotion  to  the  public  welfare.  And,  similarly,  the  failure  of  the 
agitation  to  arise  again  since  then  does  not  denote  so  much  an 
increased  knowledge  of  the  principles  of  sound  money,  as  it  does  a 
change  in  the  fundamental  conditions  governing  the  supply  of  gold. 
The  productivity  of  the  world's  mines  since  1896  has  given  an 
enormously  increased  volume  of  currency,  enough  at  least  to  dull  the 
edge  of  that  insistent  desire  for  more  money  which  characterizes  the 
true  inflationist.  At  the  same  time  the  high  prices  of  the  present 
era  serve  effectively  to  remove  the  grievance  of  the  debtor  classes. 
In  fact,  it  is  now  a  horse  of  a  different  color;  for  it  is  the  creditor 
class  that  is  feeling  the  ill  consequences  of  a  changing  price  level. 


212  PRINCIPLES  OF  MONEY  AND  BANKING 

The  quotations  from  the  national  party  platforms  of  1896  and  1912 
reveal  the  complete  reversal  of  opinion  on  the  part  of  both  parties 
with  reference  to  the  underlying  relations  of  money  and  prices;  poUt- 
ical  expediency  still  appears  to  be  of  more  practical  significance  than 
analysis  or  truth. 

By  way  of  reviewing  the  whole  history  of  monetary  evolution  one 
should  compare  the  statistics  of  production  of  the  precious  metals 
at  various  periods  with  the  monetary  controversies  that  have  come 
and  gone.  It  will  be  found  that  monetary  history  may  be  very  largely 
explained  by  reference  to  the  conditions  of  production  of  gold  and 
silver  at  the  mines. 

A.     The  Agitation  for  the  Recoinage  of  Silver 

120.    THE  CRIME  OF  1873:    THE  INDICTMENT' 
By  J.  P.  DUNN 

The  bill  which  was  presented  to  the  Senate  for  amendment  and 
passage  contained  provision  for  a  standard  silver  dollar  as  well  as  for 
a  trade  dollar.  In  the  words  of  Mr.  Sherman:  "This  bill  proposes 
a  silver  coinage  exactly  the  same  as  the  French,  and  what  are  called 
the  associated  nations  of  Europe,  who  have  adopted  the  international 
standard  of  silver  coinage;  that  is,  the  dollar  provided  for  by  this 
bill  is  the  precise  equivalent  of  the  five-franc  piece.  It  contains  the 
same  number  of  grains  of  silver,  and  we  have  adopted  the  international 
gram  instead  of  the  grain  for  the  standard  of  our  silver  coinage.  The 
"trade  dollar"  has  been  adopted  mainly  for  the  benefit  of  the  people 
of  California  and  others  engaged  in  trade  wdth  China.  That  is  the 
only  coin  measured  by  the  grain  instead  of  the  gram.  The  intrinsic 
value  of  each  is  to  be  stamped  upon  the  coin."  (Congressional  Globe, 
3d  sess.,  42d  Cong.,  p.  672.) 

Human  perversity  cannot  misinterpret  this  language.  It  means 
that  the  bill  provided  for  two  dollars.  The  one,  measured  in  grams, 
the  standard  of  our  silver  coinage,  and  the  other,  measured  in  grains, 
a  special  coin  for  convenience  m  tlie  Chmese  trade.  The  Senate 
passed  this  bill  and  it  was  referred  to  the  House,  which  declined  to 
concur  in  some  of  the  Senate  amendments,  thus  necessitating  a  Con- 
ference Committee.  This  committee  in  reporting  to  the  House  and 
Senate  made  no  reference  to  the  omission  of  the  standard  silver  dollar 

'  Adapted  from  "The  Silver  '  Grievance,'  "  Journal  of  Political  Economy,  1892, 
pp.  436-38. 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       213 

from  the  list  of  coins  that  could  be  struck.  This  section  of  the  bill 
had  not  been  amended  by  the  Senate,  and  therefore  was  not  a  sec- 
tion open  for  adjustment  in  the  Conference  Committee.  Someone 
secretly  drew  the  pen  through  the  silver  dollar.  The  fact  that  it  was 
done  in  the  Conference  Committee,  where  it  was  not  an  issue,  is  the 
significant  point  which  is  usually  overlooked  by  those  who  hold  that 
there  was  no  intentional  deceit. 


121.    THE  CRIME  OF  1873:  THE  DEFENSE' 
By  JAMES  T.  McCLEARY 

The  mintage  act  of  1873  is  a  subject  about  which  there  has  been 
a  great  deal  of  misunderstanding.  Aspersions  galore  have  been  cast 
upon  the  methods  and  the  motives  of  the  men  who  were  responsible 
for  its  enactment.  For  twenty  years  "the  crime  of  1873"  has  been 
held  up  as  one  of  the  most  atrocious  in  the  entire  political  calendar. 

The  original  bill  was  prepared  in  the  Treasury  Department  in  the 
winter  of  1869-70  by  John  Knox,  then  Deputy  Comptroller  of  the 
Currency,  under  the  direction  of  George  S.  Boutwell,  then  Secretary 
of  the  Treasury.  The  laws  relating  to  the  mint  had  not  been  re^•ised 
for  more  than  a  generation,  and  much  confusion  existed.  The  first 
section  of  the  bill  was  largely  a  codification  of  existing  law,  with  such 
improvements  as  experience  suggested. 

Then  immediately  following,  and  in  the  precise  place  where  any- 
one interested  in  such  legislation  or  attempting  to  follow  its  course 
would  most  naturalh'  look  for  a  statement  of  what  was  contemplated, 
was  a  short  paragraph  headed  in  large  capital  letters:  PROPOSED 
AMENDMENTS.  In  this  paragraph  an  enumeration  of  "  the  new 
features  of  the  bill"  is  made.  There  are  twelve  different  amend- 
ments specified — one  of  which  is  plainly  stated  to  be  "discontinuing 
the  coinage  of  the  silver  dollar."  This  is  the  clause  that  has  given  rise 
to  the  long  controversy.  The  bill  as  thus  perfected  was  introduced 
in  the  Senate  April  25,  1870,  accompanied  by  a  report  giving  the 
reasons  for  its  introduction,  the  method  of  its  preparation,  and  an 
explanation  of  every  section  in  it.  (The  original  bill  and  the  report 
accompanying  it  arc  to  be  found  in  the  Senate  Misc.  Document  No. 
132  of  the  second  session  of  the  Forty-first  Congress.) 

Section  14  of  the  bill  .sjK-cilied  the  weight  and  fineness  of  the  gold 
coins,  and  made  the  gold  dollar  the  unit  of  value. 

•  Adapted  from  Sound  Currency,  III,  1896,  No.  13,  pp.  2-10. 


214  PRINCIPLES  OF  MONEY  AND  BANKING 

Sections  15  and  18  were  as  follows: 

Section  15.  And  be  it  further  enacted,  That  of  the  silver  coin,  the 
weight  of  the  half-dollar,  or  piece  of  fifty  cents,  shall  be  192  grains;  and 
that  of  the  quarter-dollar  and  dime  shall  be,  respectively,  one  half  and  one- 
fifth  of  the  weight  of  said  half-dollar.  That  the  silver  coin  issued  in  con- 
formity with  the  above  section  shall  be  a  legal  tender  in  any  one  payment 
of  debts  for  all  sums  less  than  $1; 

Section  18.  And  be  it  further  enacted,  That  no  coins,  either  gold,  silver, 
or  minor  coinage,  shall  hereafter  be  issued  from  the  mint  other  than  those 
of  the  denominations,  standard,  and  weights  herein  set  forth. 

Ask  the  first  twenty  free-silverites  that  you  meet,  "Did  the  Act 
of  1873  ever  contain  the  old  standard  silver  dollar  of  412^  grains?" 
and  nineteen  of  them,  if  not  all,  will  promptly  answer,  "Why,  cer- 
tainly, and  it  was  surreptitiously  dropped  out  just  before  the  passage 
of  the  bill."  Many  a  good  man  has  had  his  righteous  indignation 
aroused  by  being  told  this  tale.  And  very  frequently  it  has  been  told 
by  men  who  sincerely  believed  that  such  was  the  case.  But,  as  we 
have  seen,  the  story  is  not  true.  The  412^-grain  dollar  was  never  in 
the  bill  from  first  to  last  I  Its  omission  was  carefully  pointed  out  in  the 
report  accompanying  the  original  bill,  and  the  reasons  for  the  omission 
were  plainly  given.  The  dollar  for  which  the  trade  dollar  was  finally 
substituted  was  a  384-grain  dollar,  of  limited  coinage  and  tender. 
The  change  was  made  for  the  benefit  of  the  silver-producers,  and  at 
their  request,  to  enable  them  to  find  a  market  for  their  silver  in  the 
East. 

And  the  bill  on  its  final  passage  was  voted  for  by  every  man  from 
the  Pacific  Coast.    They  had  got  exactly  what  they  asked  for. 

That  the  matter  was  fully  discussed  in  Congress  may  be  seen  by 
the  following  extracts  from  the  debates: 

On  January  9,  1872,  in  reporting  H.R.  5,  which  (like  the  original 
bill,  S.  859)  contained  no  silver  dollar  of  any  kind,  Mr.  Kelley,  chair- 
man of  the  committee  in  charge  of  the  bill,  said:  "The  Senate  took 
up  the  bill  and  acted  upon  it  durmg  the  last  Congress  and  sent  it  to 
the  House;  it  was  referred  to  the  Committee  on  Coinage,  Weights, 
and  Measures,  and  received  as  careful  attention  as  I  have  ever  known 

a  committee  to  bestow  on  any  measure We  proceeded  with 

great  deliberation  to  go  over  the  bill,  not  only  section  by  section,  but 
line  by  line,  and  word  by  word;  the  bill  has  not  received  the  same 
elaborate  consideration  from  the  Committee  on  Coinage  of  this  House, 
but  the  attention  of  each  member  was  brought  to  it  at  the  earliest 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT       215 

day  of  this  session;  each  member  procured  a  copy  of  the  bill,  ami 
there  has  been  a  thorough  examination  of  the  bill  again."' 

Mr.  Harper  on  April  9,  1872,  for  instance,  spoke  as  follows  on 
section  16:  "Section  16  re-enacts  the  provisions  of  the  existing  laws 
defining  the  silver  coins  and  their  weights,  respectively,  except  in  rela- 
tion to  the  silver  dollar,  which  is  reduced  in  weight  from  41 2|  to  384 
grains,  thus  making  it  a  subsidiary  coin  in  harmony  with  the  silver 
coins  of  less  denomination  to  secure  its  concurrent  circulation  with 

them This  bill  provides  for  the  making  of  changes  in  the 

legal-tender  coin  of  the  country  and  for  substituting  as  legal-tender 
coins  of  only  one  metal  instead  as  heretofore  of  two.  I  think  myself 
this  would  be  a  wise  provision,  and  that  legal-tender  coins,  excejit 
subsidiary  coin,  should  be  of  gold  alone;  but  why  should  we  legislate 
on  this  now  when  we  are  not  using  either  of  those  metals  as  a 
circulating  medium?" 

On  May  27,  1872,  the  bill  was  once  more  called  up  in  the  House 
by  Mr.  Hooper  for  the  purpose  of  offering  an  amendment  in  the  nature 
of  a  substitute. 

In  view  of  certain  statements  which  have  been  going  the  rounds 
to  the  effect  that  the  bill  or  its  substitute  was  ne<^er  read,  it  may  not 
be  out  of  place  to  state  somewhat  more  fully  the  events  preceding 
the  passage  of  the  act  in  the  House,  as  they  are  recorded  in  the  Globe: 

1.  A  motion  to  suspend  the  rules  and  pass  the  bill  without  reading 
was  defeated. 

2.  Mr.  Hooper  then  asked  that  the  bill  about  to  be  passed  be  read. 

3.  The  record  reads,  "The  clerk  began  to  read  the  substitute" 
(which  was  the  bill  passed). 

4.  Mr.  McCormick  later  said,  "I  ask  that  the  nineteenth  section 
be  read  again." 

5.  After  further  discussion  the  bill  was  passed,  yeas  no,  nays  13. 
The  bill  was  again  printed  in  the  Senate  on  May  29,  1872,  and 

referred  to  the  Finance  Committee,  from  which  it  was  reported  back 
Decem])er  16,  1872.  After  debate,  the  bill  was  once  more  printed  in 
full,  with  amendments,  and  was  considered  by  the  Senate  section  by 
section. 

After  passing  the  Senate,  January  17,  1873,  the  l>ill  was  sent  to 
the  House,  and  on  January  21,  1873,  it  was  again  printed  with  amend- 
ments. Subsequently  conference  committees  were  appointed,  con- 
sisting of  Messrs.  Hooper,  Houghton,  and  McNecly  of  the  House,  and 

'  Congressional  Globe,  C,  322. 


2i6  PRINCIPLES  OF  MONEY  AND  BANKING 

Senators  Sherman,  Scott,  and  Bayard  of  the  Senate.  The  reports  of 
the  Conference  Committee  were  agreed  to,  and  the  bill  became  a  law 
on  February  lo,  1873. 

122.    AN  ECONOMIST'S  VIEW  OF  THE  ACT  OF  1873' 
By  FRANCIS  A.  WALKER 

As  one  who  has  read  a  good  deal  upon  both  sides  of  this  subject, 
I  do  not  believe  that  any  fraud  was  committed  or  intended  by  the 
Act  of  1873.  Very  few  people  knew  what  the  monetary  system  of  the 
country  was  by  law.  Our  public  men  had  almost  no  training  in  eco- 
nomics or  finance.  The  general  pubUc  had  not  had  its  attention  at 
all  called  to  the  subject  of  the  standard.  Some  committeeman,  or 
some  few  committeemen,  ran  the  pen  through  the  silver  dollar;  and 
the  thing  was  done.  The  measure  passed  through  the  usual  course; 
the  bill  was  duly  "read"  the  regular  number  of  times;  and  without 
debate  the  demonetization  of  silver  was  effected. 

But  while  I  am  disposed  to  discredit  the  allegations  of  sinister 
motives,  it  seems  to  me,  nevertheless,  that  the  silver  men  have  a 
grievance.  No  man  in  a  position  of  trust  has  a  right  to  allow  a 
measure  of  such  importance  to  pass  without  calUng  attention  sharply 
to  it.  Everyone  knows  that  but  few  men  upon  the  floor  of  Congress 
read  the  text  of  one  in  twenty  of  the  bills  they  have  to  pass  upon; 
and  it  is  the  duty  of  the  committees  deaUng  with  any  class  of  subjects 
to  see  to  it  that  every  proposal  is  fully  explained  to  Congress  and  to 
the  country.  They  are  not  discharged  of  their  obligations  simply  by 
giving  members  an  opportunity  to  find  it  out  for  themselves. 

123.     THE  TRADE  DOLLAR" 
By  a.  PIATT  ANDREW 

During  the  sixties  the  United  States  suddenly  developed  silver 
resources  second  only  to  those  of  Mexico;  and  Congress,  desirous  of 
assisting  American  mine-owners  to  secure  an  Oriental  market  for  their 
product,  in  1873  consented  to  their  ha\dng  their  silver  stamped  at 
the  government  mint  into  coin  adapted  for  the  Eastern  trade.  So 
great  was  the  foreign  demand  for  IMexican  dollars  at  this  time  that 
they  continually  commanded  a  premium;  and,  as  the  ^lexican  govern- 

'  Adapted  from  "The  Free  Coinage  of  Silver,"  Journal  of  Political  Economy,! 
(1892),  pp.  169-70. 

'Adapted  from  Quarterly  Journal  of  Economics,  XVIII  (1903-04)  329-31. 


THE  STANDARD  QUESTION:  THE  SU.VER  MOVEMENT       217 

ment  levied  a  tax  of  8  per  cent  upon  their  export,  there  was  every 
reason  to  believe  that  the  new  American  coins,  which  could  be  freely 
exported,  and  which  would  be  more  accurate  in  mintage  and  superior 
in  bullion  value  to  the  Mexican  dollars,  would  meet  a  real  demand  in 
the  East,  and  might  even  supersede  the  Mexican  coins  in  those  parts. 
The  ordinary  American  dollar,  containing  37 ij  grains  of  pure  silver, 
had  never  been  well  received  in  China  on  account  of  its  inferior  con- 
tent. So  the  new  coins  were  to  contain  37S  grains,  or  |  of  a  grain 
more  than  the  standard  of  the  Mexican  dollar.  This  would  make 
them  worth,  at  the  ratio  of  exchange  prevailing  when  the  act  was 
passed,  a  little  more  than  Si  04  in  gold,  and  would  have  the  double 
advantage,  it  was  thought,  of  rendering  them  acceptable  in  the  Orient 
without  danger  of  their  invading  the  circulation  at  home. 

The  new  trade  dollars,  as  had  been  expected,  found  a  ready  market 
in  the  East.  At  Hong  Kong  and  the  Straits  Settlements,  in  French 
Indo-China,  and  at  several  Chinese  ports  they  were  made  a  legal 
tender  along  with  the  Mexican  dollars;  and  the  California  mint  soon 
found  difficulty  in  turning  them  out  fast  enough  to  meet  requirements. 
Within  six  years  after  the  commencement  of  their  coinage  nearly 
36  millions  had  been  struck,  and  in  January,  1877,  the  leading  bankers 
in  China  reported  that  there  was  "evidence  powerful  enough  to  con- 
vince the  most  skeptical"  that  the  United  States  trade  dollar  has 
been  a  success,  predicting  that  "ultimately  it  will  be  current  all  over 
China."  The  American  dollar  was  thus  making  rapid  inroads  upon 
the  territory  of  the  Mexican  dollar  and  threatening  it  with  very 
serious  competition  in  the  Far  East,  when  unanticipated  conditions 
in  America  resulted  in  the  abrupt  cessation  of  its  coinage  and  its 
ultimate  withdrawal  from  the  field. 

The  decline  in  the  price  of  silver  reached  such  a  point  in  1S77 
that  the  silver  in  a  trade  dollar  was  worth  not  only  less  than  a  gold 
dollar,  but  also  less  than  the  depreciated  paper  dollars  which  consti- 
tuted the  circulating  medium  of  almost  the  entire  country.  As  a 
consequence,  large  numbers  of  trade  dollars  began  to  appear  in  cir- 
culation. These  trade  coins  really  had  no  legal  standing  in  the 
country,  being  neither  an  authorized  tender  for  debts  nor  receivable 
at  the  public  treasury.  In  the  eyes  of  the  law  they  were  only  discs 
of  metal  assayed  and  stamped  at  the  government  mint  for  foreign 
use;  but  they  bore  on  their  face  the  words  "  trade  dollar  "  and  "United 
States  of  America,"  and  it  was  not  strange,  therefore,  that  they 
were  frequently  given  and  taken  at  home  at  their  face  value.     The 


2l8  PRINCIPLES  OF  MONEY  AND  BANKING 

confusion  was  aggravated  in  the  following  year,  when  Congress  ordered 
the  renewed  coinage  of  the  old  standard  silver  dollar  under  the  Bland- 
Allison  act  (February  25,  1878);  for  this  meant  that  dollar  pieces  of 
even  less  intrinsic  value  were  to  circulate  at  par  under  governmental 
authority.  If  these  smaller  silver  coins  were  to  be  everywhere  receiv- 
able as  equivalent  to  the  gold  dollar,  it  appeared  but  logical  that  the 
larger  coins  issued  from  the  same  mint  should  not  be  worth  less. 

Apprehending  the  increasing  misuse  of  the  trade  dollar,  the  Sec- 
retary of  the  Treasury  therefore  ordered  the  discontinuance  of  its 
coinage  on  October  15,  1877;  and  the  ban  was  lifted  upon  only  a  few 
occasions  after  that  date,  when  small  amounts  were  coined  expressly 
for  exportation.  The  trade  dollars  still  outstanding  in  the  country 
continued,  however,  to  be  a  source  of  embarrassment,  until  finally, 
in  1887,  Congress  decided  to  get  rid  of  the  anomalous  pieces  altogether. 
An  act  was  passed  on  March  3  of  that  year  authorizing  the  redemp- 
tion and  recoinage  into  standard  silver  dollars  of  all  trade  dollars  pre- 
sented during  the  succeeding  six  months.  The  government  had 
coined  in  all  35,965,924  of  them,  of  which  7,689,036  were  withdrawn 
under  the  provisions  of  the  act,  a  considerable  number  having  been 
reimported  after  the  passage  of  the  act.  The  vast  majority,  however, 
seem  destined  to  remain  in  the  Orient,  unrepaired  and  unreinforced 
until  time  and  use  have  accomplished  their  decay  or  the  melting-pot 
has  consumed  them. 

124.    THE  BLAND-ALLISON  ACT  OF  1878 

As  early  as  July,  1876,  bills  were  introduced  into  Congress  for  the 
recoinage  of  silver,  but  it  was  not  until  1878  that  sufficient  strength 
could  be  gained  to  enact  a  law.  The  Bland  bill,  providing  for  unre- 
stricted coinage  of  silver  at  the  ratio  of  16  to  i,  passed  the  House 
without  debate  November  5,  1877,  by  a  vote  of  163  to  34.  In  the 
Senate  there  was  an  extended  debate  resulting  in  the  Allison  amend- 
ment, which  limited  the  purchase  of  silver  bullion  for  coinage  to  "not 
less  than  two  million  dollars  worth  per  month,  nor  more  than  four 
million  dollars  worth  per  month." 

The  amended  bill  was  unsatisfactory  to  the  silver  party  in  the 
House,  but  was  finally  supported  by  the  silver  people  in  the  beUef 
that  something  was  better  than  nothing,  and  with  the  hope  that  it 
would  be  speedily  followed  by  complete  bimetallism.  On  the  other 
hand,  it  was  supported,  also,  by  many  of  the  opposition,  who  believed 
that  it  would  be  repealed  after  a  short  trial.  At  the  same  time  it 
appeared  a  satisfactory  solution  to  those  legislators  who  were  anxious 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       219 

to  appease  all  parties.  The  measure  was  thus  a  welcome  compromise 
all  around.  President  Hayes,  however,  vetoed  the  bill,  whereupon 
it  was  promptly  passed  over  his  veto  by  a  vote  of  196  to  73  in  the 
House  and  46  to  19  in  the  Senate. 

125.    THE  SHERMAN  ACT  OF  1890' 
By  HORACE  WHITE 

On  July  14,  1890,  Congress  passed  an  act  for  the  issue  of  an  indefi- 
nite amount  of  legal-tender  notes  for  the  purchase  of  silver  bullion. 
This  is  commonly  called  the  Sherman  Act.  The  notes  were  to  be 
redeemed  on  demand  in  "coin,"  either  gold  or  silver,  at  the  discretion 
of  the  Secretary  of  the  Treasury,  but  it  was  declared  in  the  words  of 
the  act  to  be  "the  established  policy  of  the  United  States  to  maintain 
the  two  metals  on  a  parity  with  each  other  upon  the  present  legal 
ratio  or  such  ratio  as  may  be  established  by  law."  This  was  a  hint 
rather  than  a  command  to  the  Secretary  in  favor  of  gold  redemption. 
The  notes  were  declared  in  the  act  to  be  "legal  tender  in  payment  of 
all  debts,  pubHc  and  private,  except  where  otherwise  expressly  stipu- 
lated in  the  contract."  In  practical  effect  this  was  a  fresh  issue  of 
greenbacks  in  time  of  peace,  and  of  unlimited  amount.  The  only 
restriction  was  as  to  the  rate  of  issue,  which  was  to  be  the  sum  neces- 
sary to  pay  for  4,500,000  ounces  of  silver  bullion  each  month  at  the 
market  price. 

The  act  of  1890  was  not  grounded  upon  financial  considerations. 
It  was  a  part  of  a  political  trade.  In  the  Senate,  April  29,  1S96, 
Senator  Teller  of  Colorado  gave  what  he  called  the  "unvarnished 
history"  of  the  Sherman  Act,  which  has  never  been  contradicted. 
He  said  that  the  Republicans  desired  to  pass  the  McKinley  tariff  bill. 
The  silver  men  desired  to  pass  a  free-coinage  bill.  The  latter  had 
a  majority  in  the  Senate,  with  power  to  adopt  a  free-coinage  clause  as 
an  amendment  to  the  tariff  bill  and  thus  compel  the  House  to  adopt 
it  or  lose  the  latter  bill  altogether.  They  did  not  follow  that  plan 
because  they  knew  that  President  Harrison  would  veto  a  free-coinage 
bill,  even  if,  in  doing  this,  he  should  kill  the  tariff  bill.  So  the  silver 
senators  determined  to  adopt,  not  a  free-coinage  measure,  which  would 
certainly  be  vetoed,  but  the  nearest  approach  to  it,  and  put  this 
measure  on  its  passage  ahead  of  the  tariti  bill.  The  Sherman  silver 
bill  was  then  passed  by  the  Republicans  as  the  price  for  securing  the 
passage  of  the  McKinley  tariff  bill. 

'Adapted  from  Money  and  Banking,  pp.  159-60.     (Ginn  &  Co.,  1895.) 


220  PRINCIPLES  OF  MONEY  AND  BANKING 

126.    TPIE  SILVER  DEBATE  OF  1890' 
By  ROBERT  F.  HOXIE 

The  typical  advocate  of  free  coinage  of  silver  logically  began  his 
discussion  with  a  resume  of  the  present  economic  conditions.  He 
found  a  marked  depression  in  agricultural  interests,  a  vast  accumula- 
tion of  debts  and  mortgages,  a  depression  of  mining  interests,  an  era 
of  falling  prices,  and  a  widespread  feeling  of  discontent  among  the 
masses.  He  assumed  this  era  of  business  depression  accompanied  by 
falling  profits,  falling  wages,  and  enforced  idleness  to  be  permanent 
under  the  present  conditions  and  to  be  due  to  certain  general  causes: 
(i)  a  lack  of  confidence  and  business  enterprise;  (2)  a  low  range  of 
prices;  (3)  increasing  indebtedness;  (4)  the  depression  of  our  great 
silver-mining  industry.  There  were  developed  four  trains  of  reason- 
ing, more  or  less  dependent,  yet  quite  distinct,  to  prove  in  general 
that  the  demonetization  of  silver  did  actually  produce  these  effects 
and  that  its  remonetization  would  remedy  these  evils. 

The  first  of  these  may  be  called  reasoning  for  National  Bimetal- 
lism; the  second,  reasoning  for  Currency  Inflation;  the  third,  reason- 
ing in  the  interest  of  the  Debtor  Class;  the  fourth,  reasoning  in  the 
interest  of  a  Special  Industry.  These  lines  of  reasoning  will  now  be 
examined  in  order, 

A.      THE   REASONING  IN  FAVOR   OF   BIMETALLISM 

The  reasoning  in  favor  of  national  bimetallism  assumed  that  the 
currency  laws  of  1873  induced  the  present  industrial  evils  by  cutting 
the  nation  off  from  certain  benefits  and  safeguards  of  the  double 
monetary  standard,  and  that  the  establishment  by  law  of  free  silver 
coinage  within  the  United  States  alone  would  restore  and  maintain 
the  double  standard  for  the  nation,  with  all  its  assumed  benefits. 
The  first  step  in  this  reasoning  was  the  proof  of  the  virtues  of  bimetal- 
lism. The  arguments  advanced  were:  (i)  arguments  of  sentiment; 
and  (2)  arguments  of  theory.  The  arguments  of  sentiment  were  those 
most  frequently  advanced  in  this  debate  by  all  classes  of  silver  advo- 
cates. They  may  be  called  the  universal  free-coinage  arguments. 
They  are  easily  understood  and  appreciated,  and  may  be  used  effect- 
ively by  Congressmen  to  catch  the  popular  ear,  though  ha\'ing  no 
economic  bearing.  In  the  line  of  sentimental  argument,  it  was  urged 
that  the  two  metals  were  made  money  by  the  "fiat"  of  the  Almighty. 

'  Adapted  from  "The  Silver  Debate  of  1890,"  Journal  of  Political  Economy,  I 
(1892-93),  545-73- 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT       221 

Said  Senator  Teller:  ":Mr.  President,  the  question  presented,  not  for 
the  American  people  alone,  but  for  the  entire  world,  is  whether  we 
shall  do  business  in  the  future  as  we  have  done  business  in  the  past, 
pr  until  within  the  last  seventeen  years,  by  the  use  of  the  two  precious 
metals,  not  made  money  by  law,  not  made  money  metals  by  the  edict 
of  legislative  minds,  not  by  the  consent  of  the  merchants,  but  by  the 
fiat  of  the  Almighty,  when  he  created  these  two  metals." 

The  age  and  honor  of  the  bimetallic  system  were  frequently  brought 
forward.  A  striking  example  is  from  the  speech  of  Congressman 
Lane:  "  Gold  and  silver  should  be  equally  valuable  as  money.  They 
were  so  used  for  over  three  thousand  years  and  down  to  1873.  They 
served  together  as  the  money  of  ancient  and  modern  civilization. 
They  were  good  enough  for  Abraham  in  his  day,  and  Christ  himself 
used  coins,  not  silver  certificates,  to  pay  taxes  when  he  was  on  earth. 
Gold  and  silver  adorned  the  Temple  of  Solomon,  and  for  centuries  they 
have  sustained  commerce  and  navigation." 

The  most  effective  of  these  arguments,  however,  appealed  to 
patriotism.  Gold  and  silver  were  the  money  of  our  fathers,  for  the 
bimetallic  system  was  adopted  by  our  first  financier,  and  sanctioned 
by  the  framers  of  the  Constitution,  as  the  American  currency  system. 
These  appeals  to  sentiment,  however,  deser\^e  only  a  passing  notice. 

Of  more  weight,  but  less  frequently  urged,  were  the  theoretic 
arguments  in  favor  of  bimetallism.  It  was  asserted  that  this  system 
exerted  a  powerful  influence  in  keeping  steady  the  value  of  the  mone- 
tary unit:  first,  through  the  power  given  to  both  metals  of  entering 
or  retiring  from  the  circulation  freely;  secondly,  by  making  it  less 
possible  to  manipulate  the  currency;  and  thirdly,  by  giving  free  play 
to  an  automatic  adjustment  of  metallic  production  to  the  needs  of 
increasing  business;  a  further  argument,  on  which  much  stress  was 
laid,  assumed  that  a  bimetallic  currency  is  a  safeguard  against  panics, 
providing  adequate  means  of  metallic  liquidation  in  a  time  of  failing 
confidence,  one  metal  at  the  present  rate  of  production  and  growth 
of  business  being  inadequate  as  a  credit  basis.  These  arguments, 
with  perhaps  a  single  exception  in  either  House,  were  not  combated 
by  the  opponents  of  free  coinage. 

Another  argument  in  this  connection  assumed,  in  direct  opposi- 
tion to  the  known  fact  as  demonstrated  by  our  failure  to  secure  inter- 
national co-operation,  that  the  commercial  worUl  is  eager  for  the 
reinstatement  of  silver  and  that  only  the  courageous  etTort  of  one 
nation  is  necessary  to  enlist  world-wide  assistance.     Senator  Vance 


222  PRINCIPLES  OF  MONEY  AND  BANKING 

expressed  this  idea  in  the  following  words:  "I  believe  that  the  world 
is  waiting  for  somebody  to  begin,  and  that  the  moment  this  great 
people  throw  open  the  doors  of  their  mints  ....  the  success  of  free 
coinage  will  be  so  well  assured  that  the  smaller  nations  of  Europe  who 
ardently  desire  the  free  coinage  of  silver  money  will  at  once  come  to 
the  rescue,  and  that  it  is  only  a  matter  of  courage  that  is  required  on 
our  part  to  cease  to  regard  the  interested  howls  of  the  gold  speculators, 
throw  open  the  doors,  and  make  a  beginning." 

Whether  or  not  the  United  States  could  raise  the  value  of  silver 
seemed  an  immaterial  consideration  to  many  silver  advocates. 
Leaving  this  question  aside,  it  was  vehemently  urged  that  we  would 
find  no  difficulty  in  maintaining  the  two  metals  in  circulation  under 
a  free-coinage  law.  On  this  point  was  developed  a  remarkable  con- 
test concerning  the  existence  and  action  of  Gresham's  law.  A  class 
of  silver  advocates  denied  the  possible  existence  of  such  a  law,  and 
as  this  is  a  pivotal  point  in  the  discussion,  liberal  quotation  may  be 
pardoned.  Representative  Lane  took,  perhaps,  the  most  extreme 
attitude.  He  said:  "This  union  of  the  two  metals,  this  blending  of 
them  into  one  standard  for  practical  use,  is  improperly  called  the 
'double  standard,'  for  in  reality  it  is  a  single  standard  of  two  metals, 
exactly  a  combination  of  the  two  as  one." 

This  was  equaled  only  by  the  following:  "I  beheve  too  that  the 
free  coinage  of  silver  will  bring  gold  to  us,  not  drive  it  away.  Money 
attracts  money.  Riches  produce  riches.  Wealth  has  no  liking  for 
anything  so  much  as  itself.  Everything  assimilates  with  its  kind. 
Money  is  the  most  social,  self-assimilative,  and  procreative  of  all 
material  things." 

Another  and  more  common  position  was  taken  by  Senator  Daniel: 
"How  is  the  gold  dollar  likely  to  go  to  a  premium  over  the  silver 
dollar  ?  What  condition  could  exist  to  drive  it  to  a  premium  ?  What 
use  will  there  be  for  a  gold  dollar,  making  it  desirable  that  a  man  shall 
part  with  more  than  one  silver  dollar  in  order  to  get  a  gold  dollar  ? 
He  can  pay  as  much  tax  with  a  silver  dollar  as  ^^'ith  a  gold  dollar. 
He  can  discharge  as  much  debt  with  his  silver  dollar  as  with  his  gold 
dollar.  He  can  buy  as  much  of  any  commodity  with  his  silver  dollar 
as  with  a  gold  dollar,  and  why  then  should  he  give  more  for  a  gold 
dollar  than  for  a  silver  dollar?" 

A  favorite  mode  of  denial  was  to  point  to  our  own  experience  since 
1878.  Said  Senator  Harris:  "The  experiment  of  eleven  years  of  a 
coinage  has  effectually  exploded  the  argument  based  upon  the  idea 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT      223 

that  the  remonetization  and  coinage  of  silver  would  drive  gold  out 
of  the  country."  The  question  was  frequently  asked,  If  343  millions 
of  silver  dollars  will  not  drive  out  gold  how  much  will  ?  These  denials 
and  queries  at  once  lose  all  force,  however,  when  we  consider  that  the 
operation  of  Gresham's  law  presupposes  free  coinage,  while  under  our 
statutes  the  government  reserves  the  right  of  coinage  to  itself,  and 
retains  in  its  vaults,  as  profit  to  itself,  all  seignorage. 

The  position  held  by  the  majority  of  the  national  bimetallists  was, 
however,  less  extreme.  They  admitted  the  existence  of  Gresham's 
law,  but  affirmed  that  its  action  was  confined  to  limited  conditions. 
Gold,  they  asserted,  could  only  be  driven  out  by  silver  dollar  for 
dollar  in  legitimate  trade,  and  then  only  when  the  balance  of  trade 
is  against  us,  or  we  have  a  surplus  of  money,  or  our  securities  and 
investments  become  no  longer  desirable.  These  assumptions,  one  and 
all,  because  they  ignore  the  existence  of  the  money  broker,  and  the 
fact  that  a  metal  money  may  disappear  as  well  in  the  melting-pot  and 
by  domestic  hoarding  as  through  the  channels  of  commodity  exchange, 
must  be  seen  to  be  untenable. 

B.      THE   REASONING   FOR   INFLATION 

We  come  now  to  a  different  class  of  arguments  upheld  by  men 
actuated  by  less  worthy  motives.  For  the  origin  of  this  class  of 
reasoning  in  this  country  we  must  look  to  the  financial  history  of  the 
Civil  War  and  the  old  greenback  movement. 

The  advocacy  of  silver  by  the  inflationist  was  based  on  the  old 
familiar  assumption  that  the  quantity  of  money  controls  prices  and 
that  high  pritcs  mean  prosperity.  This  view  was  supported  by  the 
usual  assertions  that  throughout  history  the  prosperous  eras  have 
always  been  periods  of  high  prices;  the  conclusion  of  course  being 
that  high  prices  were  the  cause  of  the  prosperity. 

The  inflationist  accepted  unreservedly  the  idea  that  it  is  impos- 
sible to  have  too  much  money.  Said  Mr.  Perkins:  "In  my  reading, 
or  otherwise,  I  have  never  learned  of  any  people  who  had  too  much 
good  money  to  contribute  to  their  happiness,  to  their  support,  and  to 
the  comfort  of  their  homes.  No  one  ever  had  too  much  money  for 
caring  for  his  little  ones,  for  carrying  on  domestic  concerns,  which 
aflcct  the  happiness  of  the  fireside  of  every  man." 

The  line  of  reasoning  of  the  inflationist  was  completed  by  the 
argument  that  the  degradation  of  metallic  currency  is  impossible.  A 
plain  statement  of  this  position  is  found  in  the  speech  of  Senator  Pugh: 


224  PRINCIPLES  OF  MONEY  AND  BANKING 

"The  people  in  no  time  of  our  history,  and  no  country  in  the  world's 
history,  ever  suffered  in  trade  and  commerce  or  otherwise  from  having 
too  much  coined  money  in  circulation,  or  as  the  basis  of  circulation. 
Who  ever  heard  of  inflation  in  gold  or  silver  money,  or  in  paper  money 
founded  on  it  for  redemption  ?  How  can  there  be  depreciation  in  the 
unit  of  money  value  compounded  of  gold  and  silver,  so  long  as  the 
unit  is  the  coin  of  the  government,  declared  by  a  law  of  Congress  to 
have  the  value  of  a  dollar  ?" 

It  will  be  seen  that  this  assumption  was  based  upon  the  belief  that 
the  value  of  the  monetary  unit  is  independent  of  the  bulhon  value, 
but  depends  solely  on  the  stamp  of  the  government,  the  legal-tender 
function  given  it.  Senator  Jones,  of  Nevada,  was  the  most  ardent 
advocate  of  this  theory:  "The  logic  of  the  situation  and  the  reason- 
ing of  all  the  leading  authorities  on  money  lead  irresistibly  to  the  con- 
clusion that  its  value  does  not  reside  in  the  material  but  in  the  stamp; 
in  other  words,  on  the  legal-tender  function  impressed  on  that  metal. 
....  The  commodity  value  of  any  material  on  which  the  money 

function  may  be  stamped  is  too  trifling  to  merit  attention 

There  was  never  a  dollar  coined  that  did  not  legally  and  practically 
contain  loo  cents." 

Such  being  their  monetary  theory,  the  primary  desire  of  this  class 
of  silver  advocates  was  simply  for  more  money  to  raise  prices.  Why 
did  they  resort  to  silver  to  satisfy  their  desire  ?  Simply  as  a  matter 
of  expediency.  They  had  no  love  for  silver  as  such,  but  it  was  the 
cheapest  and  most  abundant  substance  for  which  they  could  gain 
support,  its  use  would  result  in  more  legal-tender  currency,  and  iis 
metallic  character  would  in  a  measure  shield  the  advocates  from  being 
stigmatized  as  inflationists.  Three  facts  exist  which  prove  that  the 
object  aimed  at  by  this  class  of  silver  advocates  was  simply  and  only 
more  money  and  not  especially  more  silver  money.  First,  they  made 
no  effort  toward  the  remonetization  of  silver  until  after  the  fall  in  its 
value  in  1876;  secondly,  the  members  of  this  same  class  exerted  them- 
selves to  force  the  reserves  held  by  the  government  into  circulation; 
and,  thirdly,  they  openly  declared  that  their  object  could  be  attained 
as  well  by  putting  fewer  grains  in  the  gold  dollar. 

The  inflationists  admitted  freely  that  the  free  coinage  of  silver 
would  result,  not  in  a  bimetalUc  currency,  but  in  the  silver  standard 
of  values.  In  logical  keeping  with  their  monetary  theories,  they 
hailed  the  result  with  pleasure.  Having  assumed  that  the  value 
resides  solely  in  the  stamp  of  the  government,  a  cheaper  metal  is  as 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT      225 

stable  and  costs  less  to  maintain.  By  resort  to  the  silver  standard 
the  United  States  would  make  money  by  disposing  of  its  gold,  and 
also  in  the  enhanced  price  of  silver.  "And  further,"  added  Senator 
Jones,  "the  export  of  our  gold  will  raise  the  price  for  our  exported 
goods."  Such  was  the  reasoning  for  inflation  in  the  silver  debate  of 
1890. 

C.   THE  REASONING  IN  FAVOR  OF  THE  DEBTOR  CLASS 

The  train  of  reasoning  in  favor  of  the  debtor  class  is  closely  allied 
to  that  which  was  urged  in  favor  of  currency  inflation.  Both  pro- 
ceeded from  a  desite  for  more  money  and  higher  prices,  but  while  the 
inflationists  emphasized  the  benefits  of  rising  prices,  this  class  called 
especial  attention  to  the  evils  of  falling  prices.  The  two  lines  of  rea- 
soning might  be  called  complementary.  The  supposition  at  the  foun- 
dation of  the  reasoning  for  the  debtor  class  was  that  the  depression 
under  which  the  country  labored  had  been  caused  by  a  contraction 
of  the  currency  (producing  lower  prices  and  so  decreasing  debt-paying 
power)  due  to  the  silver  legislation  of  1873.  The  per  capita  circulation 
was  not  sufficient  for  the  needs  of  trade. 

The  contraction  of  the  currency  being  assumed,  the  silver  advocate 
proceeded  to  emphasize  the  evils  resulting  therefrom.  The  following 
from  a  speech  of  Senator  Jones  is  a  characteristic  example:  "It  is  my 
firm  conviction  that  the  inexpressible  miseries  inflicted  upon  mankind 
by  war,  pestilence,  and  famine  have  been  less  cruel,  unpitying,  and 
unrelenting,  than  the  persistent  and  remorseless  exaction  which  this 
inexorable  enemy  has  made  upon  society.  As  the  volume  of  money 
contracts,  prices  decline,  and  with  the  decline  of  prices  comes  stagna- 
tion of  industry Stores,  workshops,  and  factories,  unoccupied 

and  unused,  are  found  on  every  hand.  Crime  increases,  bankruptcies 
multiply,  and  even  though  the  aggregate  of  wealth  augments,  it  is 
unjustly  distributed,  and  is  consequently  barren  of  results." 

A  careful  examination  of  the  statements  on  this  subject  seems  to 
show  that  the  silver  advocates  attributed  tlie  evils  of  contraction  to 
two  causes:  first,  the  raising  of  the  standard  of  deferred  payment  (by 
the  fall  of  prices)  and  consequent  increase  of  burdensome  indebted- 
ness; and,  secondly,  the  decrease  of  loanable  capital. 

The  reasoning  in  favor  of  the  debtor  classes  was  completed  by  an 
attempt  to  prove  the  justice  of  free  silver  as  a  remedy  for  the  evils 
of  contraction.  The  arguments  were  (i)  theoretic,  (2)  technical,  and 
(3)  moral. 


226  PRINCIPLES  OF  MONEY  AND  BANKING 

(i)  It  was  urged  that  gold  had  risen  in  value,  while  silver,  instead 
of  falling,  had  maintained  a  remarkable  steadiness  as  compared 
with  the  value  of  staple  commodities.  The  belief  that  gold  had 
risen  followed  logically  from  the  postulate  that  credit  must  bear  a 
fixed  proportion  to  metallic  money.  If  this  be  true,  and  the  law  of 
1873,  as  was  claimed,  had  cut  off  one-half  the  metallic  basis,  the 
increasing  monetary  work  of  the  world  was  thrown  upon  the  remain- 
ing metal,  and  its  rise  in  value  followed  naturally.  The  steadiness  in 
the  value  of  silver  was  plausibly  maintained  by  reference  to  tables  of 
prices  dating  from  1873. 

(2)  Technically  it  was  maintained  that  there  are  no  obligations 
in  the  United  States  which  may  not  be  paid  as  well  in  silver  as  in 
gold.  The  Constitution,  it  was  urged,  provided  for  the  coinage  of 
gold  and  silver,  and  the  law  of  1873  was  in  direct  violation  of  this. 
The  Constitution  secured  the  absolute  right  of  the  debtor  to  pay  in 
the  cheaper  coin.  Said  Congressman  Moore,  of  Texas:  "Congress 
had  no  more  power  to  demonetize  it  than  it  had- to  pass  an  ex  post 
facto  law."  In  this  connection  it  was  denied  wath  great  earnestness 
that  we  were  actually  upon  a  gold  basis. 

(3)  Finally  it  was  claimed  that  "  this  cry  for  the  best  money  is  at 
last  beginning  to  be  recognized  for  what  it  is :  the  cunning  device  of 
creditors  to  catch  the  conscience  of  the  people  and  play  upon  the 
sense  of  fairness  that  characterizes  the  great  mass  of  mankind." 

To  crown  the  argument  the  cry  was  raised  that  the  Hmited  coinage 
of  silver  is  an  unjust  discrimination  against  the  people's  money :  "Silver 
is  the  money  of  the  people,  the  common  people,  not  of  the  speculators, 
not  of  the  wealthy  men,  not  of  the  kings  and  princes  and  potentates. 
It  is  the  money  of  the  people  and  has  been  the  money  of  the  people 
so  long  and  so  far  back  in  the  history  of  the  race  as  we  have  any 
record  of  whatever." 

It  seems  almost  incredible  that  this  train  of  reasoning,  its  assump- 
tions based  on  error  in  fact,  its  postulates  on  error  in  theory,  and  its 
conclusion  leading  directly  and  inevitably  to  repudiation,  could  have 
found  supporters  in  the  Congress  of  the  United  States,  yet  it  was 
maintained  vigorously  by  the  leaders  of  the  silver  party  in  both 
Houses  and  with  far  more  energy  than  it  was  opposed. 

D.      THE   REASONING  IN  FAVOR   OF   A   SPECIAL  INDUSTRY 

By  the  close  of  the  last  decade  the  persistent  fall  in  the  market 
value  of  silver  had  convinced  the  mine-owners  and  all  those  dependent 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       227 

on  subsidiary  employments  that  the  only  hope  of  restoring  prosperity 
to  the  silver-mining  industry  lay  in  immediate  and  decisive  action  of 
Congress  in  the  direction  of  greater  silver  coinage.  Thus  was  added 
a  powerful  wing  to  the  free-coinage  party  in  the  Fifty-first  Congress. 
The  Congressmen  from  the  Far  West  were  among  the  most  insistent 
advocates  of  free  coinage.  The  arguments  they  brought  to  bear  in 
behalf  of  this  industry  resulted  in  a  plausible  chain  of  reasoning.  At 
the  outset  this  reasoning  assumed  the  postulate  of  the  National 
Bimetallist,  that  the  legislation  of  1873  caused  the  fall  in  the  value 
of  silver.  It  was  then  argued  that  the  prosperity  of  the  whole  countr\' 
is  so  intimately  connected  with  the  silver  industry  that  the  depression 
forced  upon  it  by  hostile  legislation  had  spread  throughout  the  nation. 
This  idea  was  vigorously  expressed  by  Delegate,  now  Senator,  Dubois, 
of  Idaho:  "The  West  is  pouring  in  upon  the  East  $95,000,000 
annually  in  gold  and  silver.  This  has  been  a  steadily  swelling  stream 
for  forty  years.  What  would  your  country  have  been  without  it? 
You  might  have  had  one  railroad  to  St.  Louis  or  Chicago  now,  and 
your  business  would  have  been  swapping  loopholes  for  tobacco  and 

burning  corn  for  fuel,  as  of  old The  farmers  made  a  profit  by 

their  labor  all  through  the  great  war;  they  continued  to  prosper  for 
eight  years  after  the  war  closed.  But  a  blight  came  upon  them. 
What  was  it  ?  What  caused  it  ?  The  chief  function  of  silver,  that 
of  money,  the  perfect  measure  of  values,  was  taken  from  it.  So  soon 
as  that  dishonor  was  cast  upon  it  as  compared  with  gold  it  began  to 

fall  in  value But  silver  is  a  royal  metal,  and  as  it  has  gone 

down  it  has  carried  every  other  product  of  industry  with  it  in  precisely 
the  same  ratio." 

The  true  animus  of  this  whole  train  of  reasoning,  which  many 
wished  to  conceal,  was  in  fact  a  desire  for  protection  to  a  particular 
industry.  By  some  this  was  plainly  confessed.  The  silver  miners, 
they  said,  had  built  up  the  industry  and  the  country  on  the  supposi- 
tion that  free  coinage  would  continue.  They  had  a  right  to  expect 
its  continuance,  for  had  it  not  the  sanction  of  the  Constitution  and 
the  usages  of  centuries  ?  Its  restoration  would  be  only  justice.  Said 
Senator  Stewart:  "There  is  not  a  silver  dollar  in  the  United  States 
that  will  not  bring  one  hundred  cents  in  gold.  The  United  States 
buys  412^  grains  of  bullion  for  eighty-two  cents,  and  coins  it  into  a 
dollar  and  makes  the  dilTcrence.  Why  should  not  the  owner  of  the 
bullion,  as  formerly,  have  it  coined  and  save  the  loss?" 


228  PRINCIPLES  OF  MONEY  AND  BANKING 

Further,  it  was  argued  that  there  is  no  reason  why  the  United 
States  should  not  protect  the  silver  industry  as  well  as  other  industries. 
The  mining  states  had  aided  to  protect  eastern  industries — turn  about 
is  fair  play. 

127.    THE  VIEWPOINT  OF  THE  DEBTOR  MASSES' 
By  D.  W.  VOORHEES 

It  may  be  stated  without  the  shghtest  fear  of  contradiction  that 
the  attack  upon  silver  money  in  this  and  other  countries  is  based  upon 
no  demerit  or  unsoundness  on  its  part,  but  is  simply  a  movement  for 
the  contraction  of  the  currency.  This  movement  is  made  by  the 
moneyed  classes  who  wish  to  increase  the  purchasing  and  interest- 
gathering  power  of  money  in  their  own  hands  by  making  it  scarce  in 
the  hands  of  others;  by  people  with  large  incomes  growing  out  of 
monopoHes  protected  by  unjust  legislation;  by  those  who  enjoy  annui- 
ties, interest  on  public  securities,  fixed  salaries  under  great  corpora- 
tions, and  by  the  creditor  classes  in  general,  including  all  the  enormous 
loan  associations,  who  join  in  the  movement  of  silver  destruction  and 
financial  contraction  in  order  to  enhance  twofold,  and  more,  the  value 
and  power  of  the  money  they  wring  from  the  hands  of  the  laboring 
people.  This  will  result  in  the  practical  enslavement  of  those  who 
are  in  debt  and  who  toil  for  a  living.  The  policy  of  contraction  is 
the  poUcy  of  organized,  unsparing,  pitiless  avarice. 

128.    THE  VIEWPOINT  OF  THE  CREDITOR  CLASSES^ 
By  FRANCIS  A.  WALKER 

The  inflationists,  like  the  poor,  we  have  always  with  us.  PoHtical 
education,  the  growth  of  sound  economic  ideas,  the  establishment  of 
manufactures,  trade,  and  banking  will  do  much  to  diminish  the  num- 
ber of  the  members  of  this  class;  but  humanity  will  have  to  pass 
through  many  more  stages  of  refinement  and  education  before  that 
element  will  be  entirely  eliminated.  The  instinct  of  spoUation  and 
confiscation,  the  passion  for  making  something  out  of  nothing  and 
much  out  of  little,  the  desire  to  pay  debts  in  depreciated  currency,  are 
too  deeply  implanted  in  poor,  fallen  human  nature  to  give  way  alto- 
gether, either  to  ethical  instruction  or  to  demonstrating  that  in  the 

'  Adapted  from  "A  Plea  for  Free  Silver,"  North  American  Review,  CLIII 
(1891),  529-30- 

^  Adapted  from  Journal  of  Political  Economy,  I  (1892-93),  166. 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVE^IENT       229 

long  run  honesty  is  the  best  pohcy.  There  are  tens  of  thousands  of 
people  in  Massachusetts  today  who,  if  removed  west  of  the  Mississippi, 
or  only  even  beyond  the  Alleghanies,  would  be  rampant  inflationists, 
but  are  here  overawed  by  the  dominant  sentiment  of  the  community, 
or  are  silent  because  they  see  no  chance  to  act  with  effect  in  such  a 
hopeless  minority. 

B.    The  Results  of  the  Silver  Agitation 
129.    DIFFICULTIES  UNDER  THE  BLAND-ALLISON  ACT' 

It  was  soon  found  that  there  was  no  demand  for  more  than 
30,000,000  or  35,000,000  of  silver  dollar  pieces  in  circulation  as  coins. 
But  the  provision  for  the  issue  of  certificates  made  it  possible  for  some 
time  to  force  this  stream  of  silver  into  the  channels  of  circulation  with- 
out serious  difficulty,  because  owing  to  the  price  of  bonds,  the  national 
bank  circulation  began  about  this'  time  to  contract. 

The  banks,  however,  were  not  partial  to  the  new  currency,  and 
objected  to  the  use  of  silver  or  silver  certificates  in  their  clearing- 
house transactions;  and  though  legislation  in  1S82  made  it  impossible 
for  the  banks  thereafter  formally  to  refuse  to  accept  the  silver  or  cer- 
tificates for  clearing-house  balances,  as  a  matter  of  fact  in  the  larger 
clearing-houses  silver  has  not  been  used.  Nor  have  the  banks  cared 
to  carry  any  large  proportion  of  their  reserves  in  silver  or  silver 
certificates. 

As  the  first  certificates  were  not  issued  in  denominations  below 
$10,  the  Treasury  soon  found  it  difficult  to  force  into  the  channels  of 
circulation  paper  representing  the  $2,000,000  or  §2,500,000  which 
were  being  coined  each  month.  Consequently,  an  embarrassing 
amount  of  silver  and  paper  representing  it  began  to  accumulate  in 
the  Treasury  in  spite  of  the  most  persistent  efforts  to  force  it  out, 
involving  the  payment  of  express  charges  on  vast  sums  in  the  years 
1882-86.  In  1885  the  Treasury  inaugurated  the  pohcy  of  retiring  the 
$1  and  $2  United  States  notes  in  order  to  make  a  vacuum  in  the  cir- 
culation to  be  filled  by  silver  dollars.  During  the  fiscal  year  1SS6,  the 
amount  of  United  States  notes  of  $1  and  $2  outstanding  was  reduced 
by  $14,439,000.  In  the  same  period  the  silver  dollars  in  circulation 
increased  $13,998,000.  Meanwhile  the  accumulation  of  silver  in  the 
Treasury  had  grown  from  $39,000,000  in  1884  to  $64,000,000  in  18S5, 

'  Adapted  from  Report  of  the  Monetary  Commission  of  the  Indianapolis  Con- 
vention (1898),  pp.  141-42. 


230  principlj:s  of  money  and  banking 

and  to  $93,000,000  in  1886,  at  which  time  over  half  of  the  large  avail- 
able cash  reserve  in  the  Treasury  was  in  silver  dollars. 

In  1886,  the  Treasury,  for  its  protection  against  the  threatening 
danger  that  it  would  itself  have  to  accept  and  care  for  the  entire 
further  coinage  of  silver  dollars,  secured  the  enactment  of  legislation 
permitting  the  issue  of  silver  certificates  in  denominations  of  $1,  $2, 
and  $5.  By  the  use  of  these  certificates  it  has  since  been  possible  to 
keep  in  actual  circulation,  irrespective  of  the  bank  reserves,  the  larger 
part  of  the  silver  coinage. 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       23 1 


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PRINCIPLES  OF  MONEY  AND  BANKING 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       233 
132.    NET  GOLD  RESERVE  IN  THE  TREASURY  1879-98' 


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133.    THE  SILVER  SITUATION  AND  THE  PANIC  OF  i893» 

The  act  of  1890  had  scarcely  been  passed  when  gold  exports  began 
to  increase.  These  gold  exports  coincided  very  nearly  with  redemp- 
tions of  the  United  States  notes  presented  to  the  Treasury. 

'Chart  taken  from  W.  M.  Burke,  "Bond  Issues  and  the  Clold  Reserve," 
Sound  Currcury,  VI  (1899),  21. 

*  Adapted  from  Report  of  Ihe  Monetary  Commission  of  the  Indianapolis  Con- 
vention (1898),  jjp.  436-40. 


234  PRINCIPLES  OF  MONEY  AND  BANKING 

There  were  three  chief  causes  for  these  unusual  withdrawals  of 
gold:  (i)  demands  arising  out  of  trade  conditions;  (2)  demands  due 
to  withdrawals  of  foreign  investments;  (3)  interest  payments  on 
foreign  capital. 

The  demands  for  gold  which  arose  from  the  general  condition  of 
trade  were  the  result  of  a  long  series  of  events.  Business  in  the 
United  States  prior  to  1890-93  had  been  exceedingly  active,  profits 
had  been  high,  overconfidence  and  speculative  enterprise  were  com- 
mon. The  result  of  all  these  had  been  a  tendency  to  extravagant 
expenditure  and  had  resulted  in  large  importations  of  goods.  At  the 
same  time,  our  abiUty  to  pay  had  been  considerably  diminished.  A 
considerable  portion  of  the  annual  indebtedness  of  the  United  States 
is  liquidated  by  the  shipment  of  agricultural  products.  The  price 
of  these  products  had  been  steadily  declining  in  the  markets  of  the 
world  and,  our  income  being  decreased,  our  ability  to  pay  had  in  this 
way  been  diminished.  The  result  could  only  be  a  transfer  of  capital, 
in  the  form  either  of  specie  or  of  obligations  to  pay  specie. 

The  second  of  the  causes  which  have  been  mentioned,  namely,  the 
withdrawal  of  investments  by  foreigners,  was  the  real  difficulty  in  the 
whole  situation.  The  fact  that  we  had  been  spending  more  than  we 
earned  and  importing  more  than  we  could  pay  for  would  have  been 
of  no  permanent  importance  to  a  wealthy  country  hke  the  United 
States  had  foreigners  continued  to  be  willing  to  loan  us  capital.  The 
excess  of  expenditures  over  income  would  easily  have  corrected  itself 
through  the  operation  of  the  usual  mechanism  of  trade  and  industry. 
Just  at  the  time,  however,  when  we  most  needed  capital,  a  step  had 
been  taken  which  destroyed  the  confidence  of  foreign  investors  in  our 
intention  to  settle  with  them  honestly.  We  are  normally  indebted 
to  foreigners  to  an  extent  which  is  estimated  at  from  $100,000,000 
to  $350,000,000  annually.  But  during  the  latter  part  of  1892  and 
during  1893  and  the  earlier  portion  of  1894,  it  is  estimated  that  about 
$300,000,000  of  securities  were  returned  to  us  by  the  foreigners  who 
had  purchased  them.  The  securities  were  placed  upon  the  American 
market  and  the  remittance  of  the  proceeds  necessarily  resulted  in 
gold  shipments.  But  the  worst  of  the  situation  was  not  in  a  mere 
temporary  sale  of  our  securities,  but  in  the  fact  that  the  willingness 
of  foreign  investors  to  loan  had  received  a  shock. 

This  brings  us  to  the  third  point  noted  above.  Foreigners,  being 
no  longer  willing  to  invest  their  capital  in  the  United  States,  demanded 
remittances  of  money  due  them  on  interest  account  and  refused  to 
reinvest  this  with  us.     It  thus  became  necessary  for  us  to  ship  gold 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       235 

for  all  three  of  the  reasons  mentioned.  All  these,  however,  depended 
on  one  single  fact,  the  fear  of  payment  of  debts  by  the  United  States 
in  silver  instead  of  gold. 

There  was  another  side  to  the  withdrawals  of  gold  from  the 
Treasury  of  the  United  States.  The  foreign  demand  has  already  been 
considered  and  it  has  been  shown  that  this  was  largely  due  to  distrust 
of  our  monetary  policy.  The  same  thing  occurred  at  home.  Those 
who  had  maturing  debts  which  must  be  liquidated  in  gold,  and  those 
who  had  government  promises  to  pay  coin  in  their  hands,  fearing  that 
the  word  coin  might  be  interpreted  to  mean  silver,  brought  govern- 
ment notes  to  the  Treasury  and  obtained  gold  for  the  purpose  of 
hoarding  it  to  meet  future  obligations. 

From  all  sides,  then,  both  domestic  and  foreign,  the  Treasury  was 
being  drained  of  its  gold,  just  as  would  have  been  the  case  with  a 
bank  whose  solvency,  or  ability  to  liquidate  immediatel}',  was  doubted. 
At  the  same  time  its  supplies  of  gold  were  cut  off.  Normally  this,  or 
any  other,  government  has  but  one  way  of  ob taming  money,  that  is, 
by  taking  it  from  the  people  through  taxation.  And  of  all  our  taxes 
the  sort  from  which  we  obtain  the  largest  quantities  of  gold  is  the 
customs.  But,  as  we  have  seen,  a  decrease  in  importations  was  taking 
place  both  because  of  our  too  great  expenditures  in  the  past  and  of  the 
curtailment  of  our  supplies  of  purchasing  power.  The  aggregate 
revenue  of  the  Treasury,  depending  as  it  did  on  our  tariff  duties,  was 
thus  suddenly  reduced.  This  was  not  the  worst,  A  marked  change 
in  the  kind  of  money  received  in  pa>Tnent  of  import  duties  was  notice- 
able. From  the  very  moment  of  the  passage  of  the  Sherman  Act, 
gold  receipts  at  New  York  in  payment  of  tariff  dues  began  to  decrease, 
and  silver  and  government  obligations  to  pay  gold— principally  the 
former— took  its  place.  The  gold  reserve  of  the  Treasury  was  thus 
weakened  in  several  different  ways  at  the  same  rnoment.  Its  obliga- 
tions were  presented  for  payment;  its  aggregate  of  receipts  was 
decreased;  and  the  percentage  of  gold  in  these  receipts  largely  fell  off, 
while  the  percentage  of  the  government's  own  obligations  and  of  silver 
largely  increased. 

134.    OUR  FINANCIAL  DISEASE' 
By  GROVER  CLEVELAND 

In  July,  1S90,  an  act  had  been  passed  directing  larger  govern- 
mental monthly  purchases  of  silver  than  had  been  required  under 

•  Adapted  from  the  message  of  President  Cleveland  to  Congress,  December  2, 
1895. 


236  PRINCIPLES  OF  MONEY  AND  BANKING 

previous  laws,  and  providing  that  in  payment  for  sucii  silver  Treasury 
notes  of  the  United  States  should  be  issued  payable  on  demand  in 
gold  or  silver  coin,  at  the  discretion  of  the  Secretary  of  the  Treasury. 
It  was,  however,  declared  in  the  act  to  be  "the  established  policy  of 
the  United  States  to  maintain  the  two  metals  on  a  parity  with  each 
other  upon  the  present  legal  ratio,  or  such  ratio  as  may  be  provided 
by  law."  In  view  of  this  declaration  it  was  not  deemed  permissible 
for  the  Secretary  of  the  Treasury  to  exercise  the  discretion  in  terms 
conferred  on  him,  by  refusing  to  pay  gold  on  these  notes  when 
demanded,  because  by  such  discrimination  in  favor  of  the  gold  dollar 
the  so-called  parity  of  the  two  metals  would  be  destroyed,  and  grave 
and  dangerous  consequences  would  be  precipitated  by  affirming  or 
accentuating  the  constantly  widening  disparity  between  their  actual 
values  under  the  existing  ratio. 

It  thus  resulted  that  the  Treasury  notes  issued  in  payment  of 
silver  purchases  under  the  law  of  1890  were  necessarily  treated  as 
gold  obligations,  at  the  option  of  the  holder.  These  notes  on  the 
I  St  day  of  November,  1893,  when  the  law  compelling  the  monthly 
purchase  of  silver  was  repealed,  amounted  to  more  than  $155,000,000. 
The  notes  of  this  description  now  outstanding,  added  to  the  United 
States  notes  still  undiminished  by  redemption  or  cancellation,  con- 
stitute a  volume  of  gold  obligations  amounting  to  nearly  $500,000,000. 
These  obligations  are  the  instruments  which,  ever  since  we  have  had 
a  gold  reserve,  have  been  used  to  deplete  it. 

This  reserve  had  fallen  in  April,  1893,  to  $97,011,330.  It  has 
from  that  time  to  the  present,  with  very  few  and  unimportant  move- 
ments, steadily  decreased,  except  as  it  has  been  temporarily  replen- 
ished by  the  sale  of  bonds. 

Among  the  causes  for  this  constant  and  uniform  shrinkage  in  this 
fund  may  be  mentioned  the  great  faUing  off  of  exports  under  the 
operation  of  the  tariff  law  until  recently  in  force,  which  crippled  our 
exchange  of  commodities  with  foreign  nations  and  necessitated  to  some 
extent  the  payment  of  our  balances  in  gold;  the  unnatural  infusion  of 
silver  into  our  currency,  and  the  increasing  agitation  for  its  free  and 
unlimited  coinage,  which  have  created  apprehension  as  to  our  disposi- 
tion or  ability  to  continue  gold  payments;  the  consequent  hoarding 
of  gold  at  home  and  the  stoppage  of  investments  of  foreign  capital, 
as  well  as  the  return  of  our  securities  already  sold  abroad;  and  the 
high  rate  of  foreign  exchange,  which  induced  the  shipment  of  our  gold 
to  be  drawn  against  as  a  matter  of  speculation. 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT      237 

In  consequence  of  these  conditions  the  gold  reserve  on  the  ist  day 
of  February,  1894,  was  reduced  to  $65,438,377,  having  lost  more  than 
$31,000,000  during  the  preceding  nine  months,  or  since  April,  1893. 
Its  replenishment  being  necessary,  and  no  other  manner  of  accom- 
plishing it  being  possible,  resort  was  had  to  the  issue  and  sale  of  bonds 
provided  for  by  the  Resumption  Act  of  1875.  Fifty  millions  of  these 
bonds  were  sold,  yielding  $58,633,295.71,  which  was  added  to  the 
reserve  fund  of  gold  then  on  hand.  As  a  result  of  this  operation  this 
reserve,  which  had  suffered  constant  and  large  withdrawals  in  the 
meantime,  stood  on  the  6th  day  of  March,  1894,  at  the  sum  of 
$107,446,802.  Its  depletion  was,  however,  immediately  thereafter 
so  accelerated  that  on  the  30th  day  of  June,  1894,  it  had  fallen  to 
$64,873,025,  thus  losing  by  withdrawals  more  than  $42,000,000  in  five 
months  and  dropping  slightly  below  its  situation  when  the  sale  of 
$50,000,000  in  bonds  was  effected  for  its  replenishment. 

This  depressed  condition  grew  worse,  and  on  the  24th  day  of 
November,  1894,  our  gold  reserve  being  reduced  to  $57,669,701,  it 
became  necessary  to  again  strengthen  it.  This  was  done  by  another 
sale  of  bonds  amounting  to  $50,000,000,  from  which  there  was  reaUzed 
$58,538,500,  with  which  the  fund  was  increased  to  $111,142,021,  on 
the  4th  day  of  December,  1894. 

Again  disappointment  awaited  the  anxious  hope  for  reUef.  There 
was  not  even  a  lull  in  the  exasperating  withdrawals  of  gold.  On  the 
contrary,  they  grew  larger  and  more  persistent  than  ever.  Between 
the  4th  day  of  December,  1894,  and  early  in  February,  1895,  a  period 
of  scarcely  more  than  two  months  after  the  second  reinforcement  of 
our  gold  reserve  by  the  sale  of  bonds,  it  had  lost  by  such  withdrawals 
more  than  $69,000,000  and  had  fallen  to  $41,340,181.  Nearly 
$43,000,000  had  been  withdrawn  within  the  month  immediately  pre- 
ceding this  situation. 

In  anticipation  of  impending  trouble,  I  had  on  the  28th  day  of 
January,  1895,  addressed  a  communication  to  the  Congress,  fully 
setting  forth  our  difficulties  and  dangerous  position,  and  earnestly 
recommending  that  authority  be  given  tlie  Secretary  of  the  Treasury 
to  issue  bonds  bearing  a  low  rate  of  interest,  payable  by  their  terms 
in  gold,  for  the  purpose  of  maintaining  a  sufficient  gold  reserve,  and 
also  for  the  redemption  and  cancellation  of  outstanding  United  States 
notes  and  the  Treasury  notes  issued  for  the  purchase  of  silver  under 
the  law  of  1890.  This  recommendation  did  not,  however,  meet  with 
legislative  approval. 


238  PRINCIPLES  OF  MONEY  AND  BANKING 

In  February,  1895,  therefore,  the  situation  was  exceedingly  critical. 
With  a  reserve  perilously  low  and  refusal  of  congressional  aid,  every- 
thing indicated  that  the  end  of  gold  payments  by  the  Government 
was  imminent.  The  results  of  prior  bond  issues  had  been  exceedingly 
unsatisfactory,  and  the  large  withdrawals  of  gold  immediately  suc- 
ceeding their  public  sale  in  open  market  gave  rise  to  a  reasonable 
suspicion  that  a  large  part  of  the  gold  paid  into  the  Treasury  upon 
such  sales  was  promptly  drawn  out  again  by  the  presentation  of  the 
United  States  notes  or  Treasury  notes  and  found  its  way  to  the  hands 
of  those  who  had  only  temporarily  parted  with  it  in  the  purchase  of 
bonds. 

In  this  emergency,  and  in  view  of  its  surrounding  perplexities,  it 
became  entirely  apparent  to  those  upon  whom  the  struggle  for  safety 
was  devolved  not  only  that  our  gold  reserve  must,  for  the  third  time 
in  less  than  thirteen  months,  be  restored  by  another  issue  and  sale  of 
bonds  bearing  a  high  rate  of  interest  and  badly  suited  to  the  purpose, 
but  that  a  plan  must  be  adopted  for  their  disposition  promising  better 
results  than  those  realized  on  previous  sales.  An  agreement  was 
therefore  made  with  a  number  of  financiers  and  bankers  whereby  it 
was  stipulated  that  bonds  described  in  the  Resumption  Act  of  1875, 
payable  in  coin  thirty  years  after  their  date,  bearing  interest  at  the 
rate  of  4  per  cent  per  annum,  and  amounting  to  about  $62,000,000, 
should  be  exchanged  for  gold,  receivable  by  weight  amounting  to  a 
little  more  than  $65,000,000. 

This  gold  was  to  be  delivered  in  such  instalments  as  would  com- 
plete its  dehvery  within  about  six  months  from  the  da:te  of  the  con- 
tract, and  at  least  one-half  of  the  amount  was  to  be  furnished  from 
abroad.  It  was  also  agreed  by  those  supplying  this  gold  that  during 
the  continuance  of  the  contract  they  would  by  every  means  in  their 
power  protect  the  Government  against  gold  withdrawals.  The  con- 
tract also  provided  that  if  Congress  would  authorize  their  issuance, 
bonds  payable  by  their  terms  in  gold  and  bearing  interest  at  the  rate 
of  3  per  cent  per  annum  might  within  ten  days  be  substituted  at  par 
for  the  4  per  cent  bonds  described  in  the  agreement. 

On  the  day  this  contract  was  made  its  terms  were  communicated 
to  Congress  by  a  special  Executive  message,  in  which  it  was  stated 
that  more  than  $16,000,000  would  be  saved  to  the  Government  if 
gold  bonds  bearing  3  per  cent  interest  were  authorized  to  be  substi- 
tuted for  these  mentioned  in  the  contract. 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT       239 

The  Congress  having  declined  to  grant  the  necessary  authority  to 
secure  this  saving,  the  contract,  unmodified,  was  carried  out,  resulting 
in  a  gold  reserve  amounting  to  $107,571,230  on  the  Sth  day  of  July, 
1895.  The  performance  of  this  contract  not  only  restored  the  reserve, 
but  checked  for  a  time  the  withdrawals  of  gold  and  brought  on  a 
period  of  restored  confidence  and  such  peace  and  quiet  in  business 
circles  as  were  of  the  greatest  possible  value  to  every  interest  that 
affects  our  people.  I  have  never  had  the  slightest  misgiving  concern- 
ing the  wisdom  or  propriety  of  this  arrangement,  and  am  quite  willing 
to  answer  for  my  fuU  share  of  responsibility  for  its  promotion.  I 
believe  it  averted  a  disaster  the  imminence  of  which  was,  fortunately, 
not  at  the  time  generally  understood  by  our  people. 

Though  the  contract  mentioned  stayed  for  a  time  the  tide  of  gold 
withdrawal,  its  good  results  could  not  be  permanent.  Recent  with- 
drawals have  reduced  the  reserve  from  $107,571,230  on  the  Sth  day 
of  July,  1895,  to  $79,333,966.  How  long  it  will  remain  large  enough 
to  render  its  increase  unnecessary  is  only  a  matter  of  conjecture, 
though  quite  large  withdrawals  for  shipments  in  the  immediate  future 
are  predicted  in  well-informed  quarters.  About  $16,000,000  has  been 
withdrawn  during  the  month  of  November. 

The  foregoing  statement  of  events  and  conditions  develops  the 
fact  that  after  increasing  our  interest-bearing  bonded  indebtedness 
more  than  $162,000,000  to  save  our  gold  reserve  we  are  nearly 
where  we  started,  having  now  in  such  reserve  $79,333 >966,  as 
against  $65,438,377  in  February,  1894,  when  the  first  bonds  were 
issued. 

Though  the  amount  of  gold  drawn  from  the  Treasury  appears  to 
be  very  large,  as  gathered  from  the  facts  and  figures  herein  presented, 
it  actually  was  much  larger,  considerable  sums  having  been  acquired 
by  the  Treasury  within  the  several  periods  stated  without  the  issue 
of  bonds.  On  the  28th  day  of  January,  1895,  it  was  reported  by  the 
Secretary  of  the  Treasury  that  more  than  $172,000,000  of  gold  had 
been  withdrawn  for  hoarding  or  shipment  during  the  year  preceding. 
He  now  reports  that  from  January  i,  1879,  to  July  14,  1S90,  a  period 
of  more  than  eleven  years,  only  a  little  over  $28,000,000  was  with- 
drawn, and  that  between  July  14,  1890,  the  date  of  the  passage  of  the 
law  for  an  increased  purchase  of  silver,  and  December  i,  1895,  or 
within  less  than  five  and  a  half  years,  there  was  withdrawn  nearl\- 
$375,000,000,  making  a  total  of  more  than  $403,000,000  drawn  from 


240  PRINCIPLES  OF  MONEY  AND  BANKING 

the  Treasury  in  gold  since  January  i,  1879,  the  date  fixed  in  1875  for 
the  retirement  of  the  United  States  notes. 

Nearly  $327,000,000  of  the  gold  thus  withdrawn  has  been  paid 
out  on  these  United  States  notes;  and  yet  every  one  of  the  $346,- 
000,000  is  still  uncanceled  and  ready  to  do  service  in  future  gold 
depletions. 

More  than  $76,000,000  in  gold  has,  since  their  creation  in  1890, 
been  paid  out  from  the  Treasury  upon  the  notes  given  on  the  pur- 
chase of  silver  by  the  Government;  and  yet  the  whole,  amounting 
to  $155,000,000,  except  a  little  more  than  $16,000,000,  which  has  been 
retired  by  exchanges  for  silver  at  the  request  of  the  holders,  remains 
outstanding  and  prepared  to  join  their  older  and  more  experienced 
aUies  in  future  raids  upon  the  Treasury's  gold  reserve. 

135.    THE  BOND  ISSUES  AND  THE  BANKLNG  S\^DICATE' 
By  WILLIAIM  J.  BRYAN 

I  do  not  intend  to  question  the  motives  of  the  ofl&cials  who  are 
responsible  for  this  contract  with  the  Banking  Syndicate.  We  might 
criticize  the  conduct  of  the  President  in  excluding  all  other  ad\asers 
and  consulting  only  with  the  magnates  of  Wall  Street;  and  we  might 
even  suggest  that  he  could  no  more  expect  to  escape  unharmed  from 
such  associations  than  one  could  expect  to  escape  asphyxiation  if  he 
locked  himself  up  in  a  room  and  turned  on  the  gas;  but  without 
questioning  the  motive  of  the  President,  I  say,  we  have  a  right  to 
express  our  judgment  as  to  whether  the  discretion  vested  in  the 
President  has  been  wisely  exercised.  We  are  told  that  this  is  not  only 
a  business  proposition  but  a  very  insignificant  question,  just  a  little 
matter  of  saving  half  a  million  a  year,  that  is  all. 

Will  you  set  a  price  upon  human  life?  Will  you  weigh  in  the 
balance  the  misery  of  the  people  ?  What  is  the  value  of  civihzation 
to  the  human  race? — because  the  settlement  of  this  "little  question" 
may  enormously  affect  the  welfare  of  mankind.  And  yet,  gentlemen 
talk  about  its  being  a  matter  of  small  consequence,  a  Uttle  question, 
the  mere  saving  of  half  a  million  dollars  a  year.  Save  the  people 
$16,000,000  in  thirty  years,  twenty-five  cents  a  piece,  by  this  resolu- 
tion and  $16,000,000  will  not  measure  the  damage  which  may  result 
to  them  in  a  third  of  that  time. 

'  Adapted  from  "  Seigniorage,  Currency,  and  Gold  Bonds,"  a  speech  delivered 
in  Congress  in  1895. 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       241 

What  is  this  contract  ?  I  am  glad  that  it  has  been  made  public. 
It  is  a  contract  made  by  the  Executive  of  a  great  nation  with  the 
representatives  of  foreign  money-loaners.  It  is  a  contract  made  with 
men  who  are  desirous  of  changing  the  financial  policy  of  this  country. 
They  recognize  by  their  actions  that  the  United  States  has  the  right 
to  pay  coin  obligation  in  either  gold  or  silver  and  they  come  to  us  with 
the  insolent  proposition,  "We  will  give  you  S  16,000,000,  paying  a 
proportionate  amount  each  year,  if  the  United  States  will  change  its 
financial  policy  to  suit  us."  They  wish  to  have  the  interest  on  these 
bonds  payable  in  gold,  only.  Never  before  has  such  a  bribe  been 
offered  to  our  people  by  a  foreign  syndicate,  and  we  ought  to  so  act 
that  such  a  bribe  will  never  be  offered  again.  By  this  contract  we 
not  only  negotiate  with  foreigners  for  a  change  in  our  financial  policy, 
but  we  give  them  an  option  on  future  loans.  They  are  to  have  the 
option  on  all  bonds  which  may  be  issued  before  the  first  of  next 
October. 

I  believe  the  President  has  made  an  inexcusable  use  of  the  dis- 
cretion vested  in  him.  W^e  cannot  afford  to  put  ourselves  in  the  hands 
of  the  Rothschilds,  who  hold  mortgages  on  most  of  the  thrones  of 
Europe. 


C.    The  Close  of  the  Silver  Controversy 

136.    THE  ISSUES  IN  1896- 
By  a.  BARTON  HEPBURN 

The  contentions  of  the  silver  men  may  be  summarized  as  follows: 

1.  Demonetization  of  silver  had  deprived  the  people  of  one-half 
the  primary  money  made  available  by  nature. 

2.  This  great  contraction  of  money,  increased  by  the  falling  off 
in  the  production  of  gold,  had  caused  the  steady  downward  trend  in 
prices  since  1873. 

3.  The  consequent  enhancement  of  the  purchasing  power  of  gold 
enormously  increased  the  obligations  of  the  debtors  having  deferred 
payments  to  make. 

4.  These  unsatisfactory  conditions  would  be  aggravated  by  con- 
centrating upon  one  metal  only  the  measuring  of  values  and  debt- 
paying  power;  while  the  alternative  existed  of  paying  either  metal, 
the  danger  of  inordinate  enhancement  of  one  was  neutralized. 

'  Adapted  from  Contest  for  Sound  Money,  pp.  3S7-SS. 


242  PRINCIPLES  OF  MONEY  AND  BANKING 

5.  The  farmer  was  under  the  gold  standard  compelled  to  compete 
with  producers  in  other  lands  (India,  etc.)  where  labor  was  cheap 
and  the  silver  basis  prevailed. 

6.  The  United  States  should  take  the  lead  by  opening  the  mints 
to  free  and  unlimited  coinage  of  silver,  which  would  surely  bring  silver 
to  parity  and  compel  other  nations  to  do  Ukewise. 

7.  The  United  States  required  a  larger  volume  of  money,  and  free 
coinage  was  the  proper  way  of  increasing  it,  especially  as  the  country 
produced  so  much  silver. 

The  international  bimetallists  generally  agreed  with  the  conten- 
tions I  to  4,  but  insisted  that  independent  action  by  the  United  States 
would  defeat  the  object  in  view  and  place  the  country  on  a  silver 
basis,  to  the  lasting  detriment  of  all  interests. 

The  gold  advocates  maintained: 

1.  That  the  volume  of  money  had  actually  increased  in  greater 
ratio  than  population,  and  that  the  growing  use  of  credit  instruments 
had  added  to  the  media  of  exchange. 

2.  That  the  fall  in  prices  was  due  chiefly,  and  probably  wholly,  to 
improved  methods  of  production,  and  had  no  relation  to  the  demone- 
tization of  silver. 

3.  That  producers  were  also  consumers  and  hence  had  to  pay  less 
for  commodities,  so  that  relatively  they  were  not  injured  by  the  fall 
in  prices. 

4.  That  the  theory  of  having  two  standards  was  a  delusion;  that 
only  one  thing  could  actually  be  a  standard ;  that  in  fact  gold  was  the 
only  standard,  silver  being  measured  by  it. 

5.  That  free  coinage  meant  depreciated  money,  than  which  no 
device  was  more  potent  in  cheating  both  the  producer  and  the  con- 
sumer. It  would  precipitate  the  country  upon  a  silver  basis  with 
gold  at  a  fluctuating  premium,  as  in  Mexico,  not  only  contracting  the 
volume  of  money,  but  causing  untold  injury  to  all  interests. 

6.  That  Europe  would  be  only  too  glad  to  have  the  United  States 
take  up  the  silver  burden  alone,  enhancing  the  value  of  its  stock  of 
silver,  but  would  not  follow  the  example. 

7.  That  the  volume  of  money  was  then  greater  than  the  needs  of 
the  country,  and  when  greater  needs  manifested  themselves  the  supply 
would  come  from  abroad  in  the  shape  of  gold  and  from  the  product 
of  our  own  mines  at  home,  the  output  of  which  was  now  rapidly 
increasing. 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT       243 

137.    CRUCIFIED  ON  A  CROSS  OF  GOLD' 
By  WILLIAM  J.  BRYAN 

Mr.  Chairman  and  Gentlemen  of  the  Convention:  I  would  be  pre- 
sumptuous, indeed,  to  present  myself  against  the  distinguished 
gentlemen  to  whom  you  have  listened  if  this  were  a  mere  measuring 
of  abilities;  but  this  is  not  a  contest  between  persons.  The  humblest 
citizen  in  all  the  land,  when  clad  in  the  armor  of  a  righteous  cause,  is 
stronger  than  all  the  hosts  of  error.  I  come  to  speak  to  you  in  defense 
of  a  cause  as  holy  as  the  cause  of  liberty — the  cause  of  humanity. 

When  this  debate  is  concluded,  a  motion  vn.\\  be  made  to  lay  upon 
the  table  the  resolution  offered  in  commendation  of  the  administra- 
tion, and  also  a  resolution  offered  in  condemnation  of  the  adminis- 
tration. We  object  to  bringing  this  question  down  to  the  level  of 
persons.  The  individual  is  but  an  atom;  he  is  born,  he  acts,  he  dies; 
but  principles  are  eternal;  and  this  has  been  a  contest  over  a  principle. 

Never  before  in  the  history  of  this  country  has  there  been  wit- 
nessed such  a  contest  as  that  through  which  we  have  just  passed. 
Never  before  in  the  history  of  American  poUtics  has  a  great  issue  been 
fought  out  as  this  issue  has  been,  by  the  voters  of  a  great  party.  On 
the  fourth  of  March,  1895,  a  few  Democrats,  most  of  them  members 
of  Congress,  issued  an  address  to  the  Democrats  of  the  nation,  assert- 
ing that  the  money  question  was  the  paramount  issue  of  the  hour; 
declaring  that  a  majority  of  the  Democratic  party  had  the  right  to 
control  the  action  of  the  party  on  this  paramount  issue;  and  conclud- 
ing with  the  request  that  the  believers  in  the  free  coinage  of  silver  in 
the  Democratic  party  should  organize,  take  charge  of,  and  control 
the  policy  of  the  Democratic  party.  Three  months  later,  at  Memphis, 
an  organization  was  perfected,  and  the  silver  Democrats  went  forth 
openly  and  courageously  proclaiming  their  belief,  and  declaring  that, 
if  successful,  they  would  crystallize  into  a  platform  the  declaration 
which  they  had  made.  Then  began  the  conflict.  With  a  zeal 
approaching  the  zeal  which  inspired  the  crusaders  who  followed  Peter 
the  Hermit,  our  silver  Democrats  went  forth  from  victory  unto 
victory  until  they  are  now  assembled,  not  to  discuss,  not  to  debate, 
but  to  enter  up  the  judgment  already  rendered  by  the  plain  people 
of  this  country.  In  this  contest  brother  has  been  arrayed  against 
brother,  father  against  son.     The  warmest  ties  of  love,  acquaintance, 

'  Adapted  from  The  First  Batik  (1896),  pp.  199-206. 


244  PRINCIPLES  OF  MONEY  AND  BANKING 

and  association  have  been  disregarded;  old  leaders  have  been  cast 
aside  when  they  have  refused  to  give  expression  to  the  sentiments  of 
those  whom  they  would  lead,  and  new  leaders  have  sprung  up  to 
give  direction  to  this  cause  of  truth.  Thus  has  the  contest  been 
waged,  and  we  have  assembled  here  under  as  binding  and  solemn 
instructions  as  were  ever  imposed  upon  representatives  of  the  people. 

The  gentleman  who  preceded  me  [ex-Governor  Russel]  spoke  of 
the  State  of  Massachusetts;  let  me  assure  him  that  not  one  present 
in  all  this  convention  entertains  the  least  hostility  to  the  people  of  the 
State  of  Massachusetts,  but  we  stand  here  representing  people  who 
are  the  equals,  before  the  law,  of  the  greatest  citizens  in  the  State  of 
Massachusetts.  When  you  [turning  to  the  gold  delegates]  come 
before  us  and  tell  us  that  we  are  about  to  disturb  your  business 
interests,  we  reply  that  you  have  disturbed  our  business  interests  by 
your  course. 

We  say  to  you  that  you  have  made  the  definition  of  a  business  man 
too  limited  in  its  application.  The  man  who  is  employed  is  as  much 
a  business  man  as  his  employer;  the  attorney  in  a  country  town  is  as 
much  a  business  man  as  the  corporation  counsel  in  a  great  metropolis; 
the  merchant  at  the  crossroads  store  is  as  much  a  business  man  as  the 
merchant  of  New  York;  the  farmer  who  goes  forth  in  the  morning 
and  toils  all  day — who  begins  in  the  spring  and  toils  all  summer — 
and  who  by  the  application  of  brain  and  muscle  to  the  natural 
resources  of  the  country  creates  wealth,  is  as  much  a  business  man  as 
the  man  who  goes  upon  the  board  of  trade  and  bets  upon  the  price  of 
grain;  the  miners  who  go  down  a  thousand  feet  into  the  earth,  or 
climb  two  thousand  feet  upon  the  cliffs,  and  bring  forth  from  their 
hiding-places  the  precious  metals  to  be  poured  into  the  channels  of 
trade,  are  as  much  business  men  as  the  few  financial  magnates  who, 
in  a  back  room,  corner  the  money  of  the  world.  We  come  to  speak 
for  this  broader  class  of  business  men. 

Ah,  my  friends,  we  say  not  one  word  against  those  who  live  upon 
the  Atlantic  coast,  but  the  hardy  pioneers  who  have  braved  all  the 
dangers  of  the  wilderness,  who  have  made  the  desert  bloom  as  the 
rose — the  pioneers  away  out  there  [pointing  to  the  west],  who  rear 
their  children  near  to  Nature's  heart,  where  they  can  mingle  their 
voices  with  the  voices  of  the  birds — out  there  where  they  have  erected 
schoolhouses  for  the  education  of  their  young,  churches  where  they 
praise  their  Creator,  and  cemeteries  where  rest  the  ashes  of  their 


THE  STANDARD  QUESTION:  THE  SmVER  MOVEMENT       245 

dead — these  people,  we  say,  are  as  deserving  of  the  consideration  of 
our  party  as  any  people  in  this  country'.  It  is  for  these  that  I  speak. 
We  do  not  come  as  aggressors.  Our  war  is  not  a  war  of  conquest; 
we  are  fighting  in  the  defense  of  our  homes,  our  families,  and  posterity. 
We  have  petitioned,  and  our  petitions  have  been  scorned;  we  have 
entreated,  and  our  entreaties  have  been  disregarded;  we  have  begged, 
and  they  have  mocked  when  our  calamity  came.  We  beg  no  longer; 
we  entreat  no  more;   we  petition  no  more.     We  defy  them. 

Let  me  come  now  to  the  paramount  issue.  If  our  opponents  ask 
us  why  it  is  that  we  say  more  on  the  money  question  than  we  say 
upon  the  tariff  question,  I  reply  that,  if  protection  has  slain  its 
thousands,  the  gold  standard  has  slain  its  tens  of  thousands.  If  they 
ask  us  why  we  do  not  embody  in  our  platform  all  the  things  that  we 
believe  in,  we  reply  that  when  we  have  restored  the  money  of  the 
Constitution  all  other  necessary  reforms  will  be  possible;  but  that 
until  this  is  done  there  is  no  other  reform  that  can  be  accomphshed. 

Why  is  it  that  within  three  months  such  a  change  has  come  over 
the  country  ?  Three  months  ago,  when  it  was  confidently  asserted 
that  those  who  believe  in  the  gold  standard  would  frame  our  platform 
and  nominate  our  candidates,  even  the  advocates  of  the  gold  standard 
did  not  think  that  we  could  elect  a  president.  And  they  had  good 
reason  for  their  doubt,  because  there  is  scarcely  a  State  here  today 
asking  for  the  gold  standard  which  is  not  in  the  absolute  control  of 
the  Republican  party.  But  note  the  change.  Mr.  McKinley  was 
nominated  at  St.  Louis  upon  a  platform  which  declared  for  the  main- 
tenance of  the  gold  standard  until  it  can  be  changed  into  bimetallism 
by  international  agreement.  Mr.  JNIcKinley  was  the  most  popular 
man  among  the  Republicans,  and  three  months  ago  everybody  in  the 
Republican  party  prophesied  his  election.  How  is  it  today  ?  Why, 
the  man  who  was  once  pleased  to  think  that  he  looked  like  Napoleon — 
that  man  shudders  today  when  he  remembers  that  he  was  nominated 
on  the  anniversary  of  Waterloo.  Not  only  that,  but  as  he  hstens  he 
can  hear  with  ever-increasing  distinctness  the  sound  of  the  waves  as 
they  beat  upon  the  lonely  shores  of  St.  Helena. 

Why  this  change?  Ah,  my  friends,  is  not  the  reason  for  the 
change  evident  to  anyone  who  will  look  at  the  matter?  No  private 
character,  however  pure,  no  personal  popularity,  however  great,  can 
protect  from  the  avenging  wrath  of  an  indignant  people  a  man  who 
will  declare  that  he  is  in  favor  of  fastening  the  gold  standard  upon 


246  PRINCIPLES  OF  MONEY  AND  BANKING 

this  country,  or  who  is  wilHnj^  to  surrender  the  right  of  self-government 
and  place  the  legislative  control  of  our  affairs  in  the  hands  of  foreign 
potentates  and  powers. 

We  go  forth  confident  that  we  shall  win.  Why  ?  Because  upon 
the  paramount  issue  of  this  campaign  there  is  not  a  spot  of  ground 
on  which  the  enemy  will  dare  to  challenge  battle.  If  they  tell  us  that 
the  gold  standard  is  a  good  thing,  we  shall  point  to  their  platform 
and  tell  them  that  their  platform  pledges  the  party  to  get  rid  of  the 
gold  standard  and  substitute  bimetallism.  If  the  gold  standard  is 
a  good  thing,  why  get  rid  of  it  ?  I  call  your  attention  to  the  fact  that 
some  of  the  very  people  who  are  in  this  convention  today  and  who  tell 
us  that  we  ought  to  declare  in  favor  of  international  bimetallism — 
thereby  declaring  that  the  gold  standard  is  wrong,  and  that  the 
principle  of  bimetallism  is  better — these  very  people  four  months  ago 
were  open  and  avowed  advocates  of  the  gold  standard,  and  were  then 
teUing  us  that  we  could  not  legislate  two  metals  together,  even  with 
the  aid  of  all  the  world.  If  the  gold  standard  is  a  good  thing,  we 
ought  to  declare  in  favor  of  its  retention,  and  not  in  favor  of  aban- 
doning it;  and  if  the  gold  standard  is  a  bad  thing,  why  should  we  wait 
until  other  nations  are  willing  to  help  us  to  let  go  ?  Here  is  the  line 
of  battle,  and  we  care  not  upon  which  issue  they  force  the  fight;  we 
are  prepared  to  meet  them  on  either  issue  or  on  both.  If  they  tell 
us  that  the  gold  standard  is  the  standard  of  civilization,  we  reply  to 
them  that  this,  the  most  enlightened  of  all  the  nations  of  the  earth, 
has  never  declared  for  a  gold  standard  and  that  both  the  great  parties 
this  year  are  declaring  against  it.  If  the  gold  standard  is  the  standard 
of  civilization,  why,  my  friends,  should  we  not  have  it  ?  If  they  come 
to  meet  us  on  that  issue,  we  can  present  the  history  of  our  nation. 
More  than  that ;  we  can  tell  them  that  they  will  search  the  pages  of 
history  in  vain  to  find  a  single  instance  where  the  common  people  of 
any  land  have  ever  declared  themselves  in  favor  of  the  gold  standard. 
They  can  find  where  the  holders  of  investments  have  declared  for  a 
gold  standard,  but  not  where  the  masses  have. 

Mr.  Carlisle  said  in  1878  that  this  was  a  struggle  between  "the 
idle  holders  of  idle  capital"  and  "the  struggling  masses,  who  produce 
the  wealth  and  pay  the  taxes  of  the  country";  and,  my  friends,  the 
question  we  are  to  decide  is:  Upon  which  side  will  the  Democratic 
party  fight;  upon  the  side  of  "  the  idle  holders  of  idle  capital"  or  upon 
the  side  of  "  the  struggling  masses"  ?     That  is  the  question  which  the 


.     ■      THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       247 

party  must  answer  first,  and  then  it  must  be  answered  by  each 
individual  hereafter.  The  sympathies  of  the  Democratic  party,  as 
shown  by  the  platform,  are  on  the  side  of  the  struggling  masses  who 
have  ever  been  the  foundation  of  the  Democratic  party.  There  are 
two  ideas  of  government.  There  are  those  who  believe  that,  if  you 
will  only  legislate  to  make  the  well-to-do  prosperous,  their  prosperity 
will  leak  through  to  those  below.  The  Democratic  idea,  however, 
has  been  that  if  you  legislate  to  make  the  masses  prosperous,  their 
prosperity  will  find  its  way  up  through  every  class  which  rests  upon 
them. 

You  come  to  us  and  tell  us  that  the  great  cities  are  in  favor  of  the 
gold  standard;  we  reply  that  the  great  cities  rest  upon  our  broad  and 
fertile  prairies.  Burn  down  your  cities  and  leave  our  farms,  and  your 
cities  will  spring  up  again  as  if  by  magic;  but  destroy  our  farms,  and 
the  grass  will  grow  in  the  streets  of  every  city  in  the  country. 

My  friends,  we  declare  that  this  nation  is  able  to  legislate  for  its 
own  people  on  every  question,  without  waiting  for  the  aid  or  consent 
of  any  other  nation  on  earth;  and  upon  that  issue  we  expect  to  carry 
every  State  in  the  Union.  I  shall  not  slander  the  inhabitants  of  the 
fair  State  of  Massachusetts  nor  the  inhabitants  of  the  State  of  New 
York  by  saying  that,  when  they  are  confronted  with  the  proposition, 
they  will  declare  that  this  nation  is  not  able  to  attend  to  its  own 
business.  It  is  the  issue  of  1776  over  again.  Our  ancestors,  when 
but  three  millions  in  number,  had  the  courage  to  declare  their  political 
independence  of  every  other  nation;  shall  we,  their  descendants,  when 
we  have  grown  to  seventy  millions,  declare  that  we  are  less  independ- 
ent than  our  forefathers?  No,  my  friends,  that  will  never  be  the 
verdict  of  our  people.  Therefore,  we  care  not  upon  what  lines  the 
battle  is  fought.  If  they  say  bimetaUism  is  good,  but  that  we  cannot 
have  it  until  other  nations  help  us,  we  reply  that,  instead  of  having  a 
gold  standard  because  England  has,  we  will  restore  bimetallism,  and 
then  let  England  have  bimetallism  because  the  United  States  has  it. 
If  they  dare  to  come  out  in  the  open  field  and  defend  the  gold  standard 
as  a  good  thing,  we  will  fight  them  to  the  uttermost.  Having  behind 
us  the  producing  masses  of  this  nation  and  the  world,  supported  by 
the  commercial  interests,  the  laboring  interests,  and  the  toilers  every- 
where, we  will  answer  tlieir  demand  for  a  gold  standard  by  saying  to 
them:  You  shall  not  press  down  upon  the  brow  of  labor  this  crown 
of  thorns,  you  shall  not  crucify  mankinrl  upon  a  cross  of  gold. 


248 


PRINCIPLES  OF  MONEY  AND  BANKING 


138.    DISTRIBUTION  OF  VOTE  IN  1896' 
By  CHARLES  J.  BULLOCK 

The  first  group  includes  the  eleven  states  of  the  greater  average 
density  of  population,  and  it  will  be  seen  that  all  of  these  were  carried 
by  the  gold  party,  usually  by  an  emphatic  majority: 


States 


Rhode  Island. 
Massachusetts 
New  Jersey .  .  . 
Connecticut.  . 
New  York ... 
Pennsylvania . 
Maryland.  .  .  . 

Ohio 

Delaware.  .  .  . 

Illinois 

Indiana 


Average  Density 


318.44 

278.48 

193.82 

15403 

126.06 

116.88 

105.72 

90. 10 

85-97 

68.33 

61.05 


Percentage  of 
Gold  \'ote 


The  second  group  includes  eighteen  states  of  a  medium  density 
of  population,  and  these  show  a  fairly  even  division  of  sentiment, 
eight  casting  a  majority  vote  in  favor  of  the^gold  standard,  and  ten 
showing  a  majority  in  favor  of  silver  or  paper: 


States 


Kentucky 

Tennessee 

New  Hampshire 

Virginia -. . 

Missouri 

South  Carolina. 

Michigan 

Vermont 

Iowa 

North  Carolina. 

Georgia 

Wisconsin 

West  Virginia.  . 

Alabama 

Mississippi.  .  .  . 

Louisiana 

Maine 

Arkansas 


Average  Density 


47 
34 
81 
27 
98 
16 
46 
39 
47 
30 
IS 
10 

95 
36 
83 
63 
II 
21 .27 


Percentage  of 
Gold  Vote 


'Adapted  from  The  Monetary  History  of  the  United  States,  pp.  117-19- 
Macmillan  Co.,  1900.) 


(The 


THE  ST/VNDARD  QUESTION:   THE  SH.VER  MOVEMENT       249 

The  third  group  comprises  sixteen  states  with  the  least  density 
of  population,  and  it  will  be  noticed  that  only  four  of  these  cast  a 
majority  vote  in  favor  of  the  gold  standard: 


States 


Average  Density 


Kansas 

Minnesota.  .  . 
Nebraska.  .  .  . 

Texas 

California .  .  .  , 

Florida 

Washington.  . 
South  Dakota 

Colorado 

Oregon 

North  Dakota 

Utah 

Idaho 

Montana 

Wyoming.  .  .  , 
Ne\'ada 


54 
83 
52 
78 
22 
34 
54 
99 
36 
72 
56 
05 
98 
64 
43 


Percentaiije  of 
Gold  \ote 


48.2 
58.3 
47  3 
31  7 
52.1 
26.7 
44.0 
49-8 

13  9 
Si-6 
56.0 

173 
21.4 
19.7 
48.  S 
18.7 


139.    THE  ACT  OF   1900  AND  THE  GREENBACK  CURRENCY' 
By  F.  W.  TAUSSIG 

The  Act  of  March  13,  1900,  "to  define  and  fix  the  standard  of 
value,  to  maintain  the  parity  of  all  forms  of  money  issued  or  coined 
by  the  United  States,  and  for  other  purposes,"  opens  a  new  stage  in 
the  monetary  history  of  the  United  States. 

The  first  section  provides  that  the  gold  dollar  shall  be  "the 
standard  unit  of  value,"  and  makes  it  the  duty  of  the  Secretary  of 
the  Treasury  to  maintain  all  forms  of  money  "at  a  parity"  with  this 
standard.  This,  to  be  sure,  is  iio  more  than  a  declaration,  whose 
efficacy  depends  on  the  nature  of  the  legislation  provided  for  upholding 
the  standard.  Much  more  important,  as  a  legislative  command 
framed  in  precise  terms,  is  the  provision  with  which  the  second  sec- 
tion opens:  that  United  States  notes  and  Treasury  notes,  when  pre- 
sented for  redemption,  shall  be  redeemed  in  gold.  Under  the  terms 
of  previous  legislation  the  Secretary  of  the  Treasury  had  the  right  to 
redeem  at  his  discretion,  in  either  kind  of  coin.  Hereafter  no  Secre- 
tary will  have  discretion  on  this  point.  The  legal-tender  paper  is 
redeemable  in  gold  and  in  gold  only. 

'  Adapted  from  "The  Currency  Act  of  1900,"  Quarterly  Journal  of  Economics, 

XIV  (1899-1900),  pp.  394-410. 


250  I'RINCIl'LKS  OF  MONEY  ANJJ  BANKING 

By  section  4  there  arc  csta1)lishe(l  in  the  office  of  the  Treasurer  two 
divisions,  to  be  known  as  the  division  of  issue  and  the  division  of 
redemption;  and  to  these  are  transferred  "all  records  and  accounts 
relating  to  the  issue  and  redemption  of  United  States  notes,  gold  cer- 
tificates, silver  certificates,  and  currency  certificates."  So  much  is 
merely  a  bookkeeping  change,  serving  to  set  forth  more  clearly  the 
various  resources  and  obligations  of  the  Treasury.  But  it  is  further 
provided  that  among  these  accounts  shall  figure  the  "reserve  fund" 
for  the  redemption  of  the  legal-tender  paper,  which,  like  the  other 
funds  represented  in  the  several  accounts,  is  to  be  "held  as  a  trust 
fund."  That  reserve  fund  is  created  and  specifically  defined  in  sec- 
tion 2,  where  the  declaration  of  trust  again  appears  in  the  provision 
that  the  fund  "shall  be  used  for  such  redemption  purposes  only." 
The  Secretary  of  the  Treasury  is  to  constitute  it  by  setting  aside  150 
millions  of  gold  coin  and  bullion,  not,  indeed,  setting  it  aside  physically, 
but  charging  so  much  of  the  gold  he  has  on  hand  to  the  reserve  fund. 
Here  we  have  something  Uke  an  issue  department.  We  might  expect 
that  thereafter  the  situation  would  be  simple,  the  new  department, 
or  account,  serving  to  hold  fast  any  notes  redeemed,  and  reissuing 
them,  if  at  all,  only  against  a  later  redeposit  of  gold.  But  this  simple 
and  straightforward  mechanism  is  not  adopted.  Instead,  we  have  a 
series  of  elaborate  regulations,  which  once  again  interlace  the  new 
account  with  the  other  Treasury  operations.  The  further  provisions 
of  this  section  of  the  act  (section  2)  call  for  constant  transfers  to 
and  fro  between  the  new  reserve  fund  and  the  general  fund,  anxiously 
avoid  any  accumulation  or  putting  aside  of  redeemed  notes,  vir- 
tually compel  their  reinjection  into  the  currency,  and,  finally,  look  to 
real  replenishment  of  the  gold  supply  from  the  sale  of  bonds  only  as 
a  last  and  extreme  resort. 

There  are  two  chief  means  of  restoring  the  reserve  whenever  notes 
are  redeemed:  (i)  The  Secretary  must  exchange  the  notes  for  any  gold 
coin  in  the  "general  fund."  This  general  fund  is  simply  the  cash 
which  happens  to  be  on  hand  in  the  course  of  the  Treasury's  ordinary 
fiscal  operations.  If  the  cash  is  in  excess  of  the  current  needs,  and  if 
the  surplus  on  hand  exists  in  the  form  of  gold  coin  (as  at  the  present 
juncture  it  happens  to  be),  a  resource  for  strengthening  the  reserve 
fund  is  here  available.  But  the  resort  to  this  device  clearly  causes 
the  surplus  in  the  general  fund  to  take  the  form  of  notes  rather  than 
gold;  and,  since  a  permanent  and  continuing  surplus  is  more  than 
improbable,  we  may  be  sure  that  sooner  or  later  the  transferred  notes 


THE  STANDARD  QUESTION:  THE  SHAVER  MOVEMENT       251 

will  be  paid  out.  Under  what  we  may  suppose  to  be  normal  condi- 
tions, when  revenues  simply  balance  expenditures,  the  operation  must 
cause  the  redeemed  notes  to  be  returned  to  circulation  with  but  a 
short  interval  of  temporary  housing  in  the  general  fund.  (2)  The 
second  use  which  the  Secretary  of  the  Treasury  must  make  of  redeemed 
notes  even  more  obviously  and  unfailingly  returns  them  to  circulation: 
"by  accepting  deposits  of  gold  coin  at  the  Treasury  or  at  any  sub- 
treasury  in  exchange  for  the  notes  so  redeemed."  Such  deposits  have 
been  habitually  made  for  years,  where  paper  is  desired  for  convenience 
of  use  by  persons  having  gold  on  their  hands;  and  a  continuance  of 
this  practice  is  looked  to  as  a  means  of  replenishing  the  reserve  fund. 

These  devices  described  in  the  preceding  paragraphs  are  compul- 
sory on  the  Secretary  of  the  Treasury  until  50  millions  of  the  original 
150  millions  of  gold  are  gone  from  the  reserve  fund.  So  long  as  gold 
can  be  scraped  up  elsewhere,  by  transfer  from  the  general  fund  or  by 
exchange  with  the  outside  world,  the  redeemed  notes  are  to  be  held 
in  the  reserve  fund  only  for  a  moment.  When  these  devices  are  no 
longer  available,  the  notes  begin  to  be  impounded.  The  reserve  fund 
may  never  exceed  150  millions  in  all,  and,  as  will  be  pointed  out  in  a 
moment,  the  notes  in  it  may  not  exceed  50  millions;  but  within  these 
limits  it  may  consist  partly  of  gold  and  partly  of  redeemed  notes. 

The  stage  of  energetic  replenishment  of  the  reserve  fund  is  not 
reached  until  the  gold  in  it  shall  fall  below  100  millions.  The  Secre- 
tary of  the  Treasury  must  sell  bonds,  and  thereby  procure  gold.  But 
the  gold  tlius  got  is  not  to  be  turned  automatically  into  the  reserve 
fund.  It  "  shall  first  be  covered  into  the  general  fund  of  the  Treasury, 
and  then  exchanged  for  an  equal  amount  of  notes  redeemed."  The 
effect  of  this  requirement  must  be  to  cause  the  reserve  fund,  which 
previously  would  have  consisted  of  100  millions  of  gold  and  50  millions 
of  paper,  to  be  suddenly  made  up  again  of  150  millions  of  gold,  the 
paper  being  transferred  as  suddenly  to  the  general  fund,  and  there 
held  again  as  cash.  Thereafter  these  notes  may  be  used  in  exchange 
for  gold  (once  more!)  or  to  purchase  bonds  or  "for  any  lawful  pur- 
pose." The  only  restriction  is  that  "they  shall  not  be  used  to  meet 
deficiencies  in  the  current  revenues."  This  proviso  is  expected  to 
prevent  the  reappearance  of  the  "endless  chain."  So  long  as  there  is 
a  "deficiency  in  the  current  revenues,"  any  notes  transferred  from  the 
reserve  fund  into  the  general  fund  in  exchange  for  bond-bought  gold 
are  to  be  impounded  in  the  general  fund,  and  there  held  as  "cash  in 
the  Treasury." 


252  PRINCIPLES  OF  MONEY  AND  BANKING 

Surveying  the  new  Treasury  system,  as  a  whole,  we  need  not 
hesitate  to  admit  that,  so  long  as  this  legislation  stands,  it  is  strong 
enough,  assuring,  even  though  by  a  cumbrous  machinery,  the  mainte- 
nance of  the  gold  standard.  Much,  indeed,  is  left  to  the  discretion  of 
the  Secretary  of  the  Treasury.  Contingencies  may  be  imagined,  how- 
ever, in  which  the  elaborate  mechanism  would  be  put  to  severe  trial, 
and  the  government  and  the  business  community  involved  in  diffi- 
culties calling  for  the  highest  qualities  in  that  responsible  post. 

Standing  conspicuously  at  the  head  of  the  Treasury's  statement 
of  condition  is  the  "reserve  fund"  of  gold  coin  and  bullion  to  the 
amount  of  150  millions.  Such  conspicuous  amassing  of  a  great  hoard 
of  cash,  likely  to  appear  year  after  year,  of  no  apparent  utility;  the 
difficulty  of  establishing  with  the  general  public  and  among  the  ever- 
shifting  legislators  the  traditions  of  an. inviolable  fund;  the  constant 
transfers  from  reserve  fund  to  general  fund  and  vice  versa,  still  further 
obscuring  the  principle  of  an  independent  and  automatic  reserve;  the 
habit  of  looking  to  the  government  for  relief,  engendered  by  the  system 
of  an  independent  treasury;  the  certainty  of  a  perennial  crop  of 
agitators  and  legislators  who  will  urge  a  plentiful  outpouring  of  money 
as  the  one  remedy  in  times  of  depression;  the  constant  resort  to  com- 
promise in  settling  disputed  questions,  inevitable  under  congressional 
and  parliamentary  government  and  conspicuously  illustrated  by  the 
history  of  currency  legislation  for  the  last  thirty-five  years:  these  are 
undeniable  menaces  to  the  permanent  maintenance  of  the  new  system. 
It  lacks  above  all  things  the  simphcity  and  single-mmdedness  neces- 
sary for  the  planting  of  a  tradition,  for  the  settlement  of  a  principle. 
What  its  future  may  be  remains  to  be  seen.  In  fair  weather,  it  will 
go  its  way  easily  enough;  but  how  will  it  withstand  the  shocks  of 
storm  ? 

140.    THE  ACT  OF  1900  AND  TREASURY  NOTE  RETIREMENT* 
By  J.  LAURENCE  LAUGHLIN 

Under  the  act  of  July  14,  1890,  168,674,682.53  ounces  of  fine 
silver  were  bought  by  the  issue  of  $155,931,002.25  of  treasury  notes. 
The  average  price  paid  per  ounce  for  the  bullion  was  $0.9244;  and 
as  the  price  is  now  about  one-third  less,  the  value  behind  the  notes 
has  become  one-third  less.  But  if  this  bulhon  were  coined  into  silver 
dollars  (at  the  rate  of  371  j  grains  each),  the  168,674,682.53  fine 

'  Adapted  from  "Recent  Monetary  Legislation,"  Sound  Currency,  VII  (1900), 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       253 

ounces  would  yield  about  218  million  silver  dollars.  Then,  instead 
of  $155,931,002.25  treasury  notes  to  look  after,  there  would  have 
been  a  vastly  larger  bulk  of  silver  dollars  to  be  added  to  those  already 
coined  under  the  act  of  1878.  The  act  of  July  14,  1890,  itself  pro\-ided 
for  an  eventual  extinction  of  the  treasury  notes,  by  virtue  of  the  fol- 
lowing provision:  "No  greater  or  less  amount  of  such  notes  shall  be 
outstanding  at  any  time  than  the  cost  of  the  silver  bullion  and  the 
standard  silver  dollars  coined  therefrom,  then  held  in  the  treasur}- 
purchased  by  such  notes." 

Hence  treasury  notes,  when  redeemed  by  gold,  would  be  reissued 
in  order  to  keep  the  amount  equal  to  the  bullion  plus  the  silver  dollars 
held;  but  when  redeemed  by  silver,  the  treasury  notes  would  be  can- 
celed in  order  to  keep  the  amount  outstanding  no  greater  nor  less  than 
the  bullion  plus  the  diminished  number  of  silver  dollars  held.  The 
released  silver  dollars,  if  returned  in  any  way  to  the  treasur>',  could 
then  become  the  basis  of  additional  silver  certificates  (but  never  of 
treasury  notes).  This  explains  why  the  treasury  notes  were  gradually 
reduced  in  volume,  coincident  with  an  increase  of  silver  dollars  and 
silver  certificates. 

The  act  of  June  13,  1898  (the  Spanish  War  Loan  and  Revenue 
Act),  stimulated  this  process  by  the  following  requirement  (sec.  34): 
"That  the  Secretary  of  the  Treasury  is  hereby  authorized  and  directed 
to  coin  into  standard  silver  dollars  as  rapidly  as  the  pubhc  interests 
may  require,  to  an  amount,  however,  of  not  less  than  one  and  one-half 
millions  of  dollars  in  each  month,  all  of  the  silver  bullion  now  in  the 
treasury  purchased  in  accordance  with  the  provision  of  the  act 
approved  July  14,  1890  ....  and  said  dollars,  when  so  coined  shall 
be  used  and  applied  in  the  manner  and  for  the  purposes  named  in 
said  act." 

Then  the  act  of  March  14,  1900,  specified  that  as  fast  as  silver 
dollars  were  coined  under  the  foregoing  laws,  the  Secretary  should 
(sec.  5) :  "  Retire  and  cancel  an  equal  amount  of  treasury  notes  when- 
ever received  into  the  treasury,  either  by  exchange  in  accordance  with 
the  provisions  of  this  act  or  in  the  ordinary  course  of  business,  and 
upon  the  cancellation  of  treasury  notes  silver  certificates  shall  be 
issued  against  the  silver  dollars  so  coined." 

In  this  way  the  new  law  has  brought  about  the  cancclkition  of 
treasury  notes  without  waiting  for  the  former  process  of  redemption 
by  silver,  thus  hastening  the  conversion  of  treasury  notes  into  silver 
certificates.     The  only  advantage  to  be  gained  from  tliis  .u  tion  is  the 


254  PRINCIPLES  OF  MONEY  AND  BANKING 

final  disappearance  of  one  of  the  too  many  kinds  of  money  which  make 
up  our  circulation. 

When  the  new  law  came  into  force  there  were  only  $66,776,000 
treasury  notes  outstanding,  supported  by  bullion  costing  $77,402,692, 
plus  9,373,308  silver  dollars.  The  number  of  ounces  of  fine  silver 
uncoined  at  that  date  was  about  85,550,000.  Consequently,  instead 
of  155  million  dollars  in  treasury  notes,  we  shall  have  about  200 
millions  in  silver  dollars  when  conversion  has  been  completed,  or  an 
increase  of  not  less  than  45  million  dollars.  This  increased  volume 
of  silver  dollars  will  raise  the  total  issue  (including  the  378  million 
dollars  coined  under  the  act  of  1S78)  to  about  578  million  dollars. 
For  the  maintenance  of  this  vast  sum  at  parity  with  gold,  when  each 
silver  dollar  is  actually  worth  only  about  47  cents,  there  is  absolutely 
no  method  of  direct  redemption  in  gold.  And  the  act  of  March  14, 
1900,  gives  no  new  provisions  whatever  to  accomphsh  this  end,  or  to 
support  its  windy  and  virtuous  order  to  the  Secretary  to  maintain  the 
parity.  Congress  might  as  well  have  ordered  the  Secretary  to  see  that 
every  citizen  of  the  United  States  should  have  blue  eyes,  so  far  as  any 
new  power  was  given  him  to  carry  out  the  purpose. 

141.     PARTY  STATEMENTS  IN  1896  AND  1912 

DEMOCRATIC  PLATPORM,    1896 

"We  declare  that  the  Act  of  1873,  demonetizing  silver  without  the 
knowledge  or  approval  of  the  American  people,  has  resulted  in  the 
appreciation  of  gold  and  a  corresponding  fall  in  the  prices  of  com- 
modities produced  by  the  people." 

DEMOCRATIC   PLATFORM,    1912 

"The  high  cost  of  living  is  a  serious  problem  in  every  American 
home.  We  charge  that  excessive  prices  result  in  a  large  measure  from 
the  high  tariff  laws  enacted  and  maintained  by  the  Republican  party 
and  from  trusts  and  commercial  conspiracies  fostered  and  encouraged 
by  such  laws,  and  we  assert  that  no  substantial  relief  can  be  secured 
for  the  people  until  import  duties  on  the  necessaries  of  life  are 
materially  reduced  and  these  criminal  conspiracies  broken  up." 

It  was  denied  in  the  campaign  that  the  rising  prices  could  be  due 
to  any  other  cause,  such  as  the  fall  in  the  value  of  gold. 

REPUBLICAN  PLATFORM,  1896 

"The  full  and  unrestricted  Democratic  control  of  the  government 
....  has  been  a  record  of  unparalleled  incapacity,  dishonor,  and 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       255 

disaster.  In  administrative  management,  it  has  ruthlessly  sacrificed 
indispensable  revenue,  entailed  an  increasing  deficit  ....  piled  up 
the  public  debt  by  $262,000,000  in  time  of  peace.  In  the  broad  effect 
of  its  policy  it  has  precipitated  panic,  blighted  industry  and  trade 
with  prolonged  depression,  closed  factories,  reduced  work  and  wages, 
halted  enterprise,  and  crippled  American  production." 

The  assertion  was  repeatedly  made  in  the  campaign  that  there  was 
an  adequate  quantity  of  money  and  that  low  prices  were  not  the 
result  of  gold  appreciation;  that,  in  fact,  there  is  little  relation 
between  money  and  prices. 

REPUBLICAN  PLATFORM,  I912 

"The  steadily  increasing  cost  of  living  has  become  a  matter  not 
only  of  national  but  world-wide  concern.  The  fact  that  it  is  not  due 
to  the  protective  tariff  system  is  evidenced  by  the  similar  conditions  in 
countries  which  have  a  tariff  policy  different  from  our  own,  as  well  as 
by  the  fact  that  the  cost  of  living  has  increased  while  ratesq^  duty  have 
remained  stationary.  The  RepubHcan  party  will  support  a  prompt 
scientific  inquiry  into  the  causes  which  are  operative  both  in  the 
United  States  and  elsewhere  to  increase  the  cost  of  living." 

It  was  repeatedly  stated  during  the  campaign  that  this  world-wide 
phenomenon  of  rising  prices  was  undoubtedly  due  to  the  fall  in  the 
value  of  gold  in  consequence  of  the  great  increase  in  gold  production. 

142.  THE  FUTURE  OF  GOLD  PRODUCTION' 

The  great  increase  in  the  output  of  gold  since  1890  has  been  due 
in  the  main  to  two  contributing  discoveries  that  were  directly  related 
to  each  other,  namely,  the  discovery  of  the  Transvaal  field  and  the 
discovery  of  the  cyanide  process. 

The  discovery  of  the  c}-anide  process  must  be  regarded  as  one  of 
the  greatest  achievements  of  modern  times.  And  there  can  be  no 
doubt  that  cyaniding  will  be  hailed  by  coming  generations  for  its  im- 
portance, not  so  much  to  the  mineral  industries  directly,  as  for  its  bear- 
ing upon  world-economies  in  rendering  possible  a  greatly  increased 
output  of  gold  and  silver  year  after  year.  In  the  comparatively  brief 
twenty-year  interval  since  1891,  when  Messrs.  McArthur  and  Forrest 
brought  the  modern  perfected  cyanide  process  prominently  before  tlie 
mining  world,  the  output  of  gold  has  amounted  to  284,081,289  fine 

'Adapted  from  the  Annual  Report  of  Director  of  the  Mint,  igii,  pp.  46, 
66-67;   1914.  PP-  261-62. 


256  PRINCIPLES  OF  MONEY  AND  BANKING 

ounces.  This  is  a  most  astonishing  showing,  especially  when  com- 
pared with  a  total  output  of  401,311,148  fine  ounces  for  the  entire 
397  years  previous — from  1493  to  1890.  Nor,  if  we  except  the  Klon- 
dike, has  this  record  production  been  boomed  by  the  development  of 
new  fields.  The  cream  of  the  world's  gold  fields  had  already  been 
skimmed  in  previous  years  in  California,  Australia,  South  Africa, 
Siberia,  India,  and  elsewhere.  It  is  mainly  on  the  cast-off  leavings 
of  the  old  fields  that  the  cyanide  process  has  achieved  a  record  pro- 
duction of  the  yellow  metal.  And  among  those  leavings  we  must 
not  forget  the  innumerable  lower-grade  properties  whose  exploitation 
has  been  rendered  fundamentally  possible  only  by  the  cyanide  process. 
It  is  these  latter  which  now  furnish  the  bulk  of  the  world's  supply  of 
gold,  and  upon  which  the  world  must  depend  very  largely  for  its 
future  requirements. 

Of  course,  it  is  possible  that  at  any  time  new  deposits  equally  rich 
with  those  of  the  Transvaal  and  the  Klondike  may  be  laid  bare;  and 
it  is  conceivable  that  the  cyanide  process  may  be  superseded  by  a 
method  which  would  again  revolutionize  production.  But  until  such 
new  discoveries  are  made  there  can  be  no  leap  in  production  compar- 
able to  that  of  the  past  twenty  years. 

Since  1906  the  rate  of  production  in  the  United  States,  including 
Alaska,  has  been  practically  at  a  standstill.  There  is  nothing  to  indi- 
cate a  considerable  change  in  either  direction.  Australasia  has  been 
on  a  declining  scale  since  1903,  the  annual  yield  being  now  about 
$28,000,000  below  the  high  year.  Russia,  Canada,  and  Mexico  have 
shown  an  increase  of  late  about  sufl&cient  to  offset  Australasia. 

Investigation  has  recently  been  made  into  the  question  of  the  life 
of  the  Rand  as  a  gold  field.  That  there  is  an  immense  amount  of 
payable  ore  in  sight,  and  that  very  low-grade  and  at  present  unpay- 
able ore  exists  by  hundreds  of  millions  of  tons,  is  beyond  dispute. 
But  as  a  paying  proposition  in  the  aggregate  how  long  the  Rand  will 
last  is  the  subject  that  has  been  engaging  attention.  The  Engineers' 
Committee  of  the  Transvaal  Chamber  of  Mines  has  recently  arrived 
at  conclusions  which  are  regarded  as  rather  unpalatable.  The  ore- 
bearing  formations  show  considerable  fluctuations,  and  working  costs 
appear  to  be  increasing  as  the  mines  deepen.  But  it  is  impossible  to 
make  a  definite  forecast,  especially  as  in  the  eastern  section  of  the 
Rand  recent  developments  lead  to  an  increase  of  tlie  estimates  of  ore 
reserves.     Beyond  the  proved  claims,  which  are  yielding  fair  to  good 


THE  STANDARD  QUESTION:  THE  SILVER  MOVEMENT       257 

results,  it  is  estimated  that  there  are  1,720,000,000  tons  of  ore  in  that 
section.  The  whole  matter  resolves  itself  into  a  question  of  working 
costs,  but  under  any  circumstances  the  Transvaal  production  will 
continue  to  be  on  an  enormous  scale  for  many  years  to  come. 

The  South  African  Mining  Journal  in  a  recent  issue  refers  to  the 
great  varieties  of  estimates  as  to  the  life  of  the  Rand  which  have  been 
made  in  recent  years.  In  conclusion,  the  article  observes:  "To  sum- 
marize all  these  prophecies,  and  witliout  quoting  a  number  of  other 
forecasts,  we  arrive  at  the  following:  1901 — Mr.  Hammond  says  the 
Rand  will  last  until  1926.  1902— Dr.  Hatch  and  Mr.  Leggett  say 
until  1944.  1904 — The  Loan  estimates  that  authorities  say  until  1934. 
1911 — Dr.  Hatch  indicates  a  life  until  1950,  and  in  the  same  year  Mr. 
Hull  prolongs  the  period  by  about  15  years.  Mr.  Boustred  then  put 
the  date  of  exhaustion  at  a.d.  two  thousand  and  something.  Next 
the  Chamber  of  Mines  gives  evidence,  which  is  interpreted  in  some 
quarters  as  meaning  that  the  Rand  will  be  of  a  very  minor  importance 
after  1940,  and  Mr.  Mathers  informs  the  world  that  the  Rand  will  be 
productive  until  2008.  We  do  not  propose  to  analyze  these  various 
prophecies — such  action  would  be  as  futile  as  the  prophecies  them- 
selves. It  is  now  admitted  that  Mr.  Hammond's  1901  estimate  was 
based  on  false  premises.  The  former  chief  consulting  engineer  of  the 
gold  fields  did  not  reckon  on  working  costs  being  reduced  to  the 
extent  they  have  been.  We  firmly  believe  that  long  before  the  date 
of  exhaustion  determined  by  other  authorities  has  been  reached  it 
will  be  generally  admitted  that  these  other  authorities  also  did  not 
base  their  estimates  on  correct  assumptions.  Who  at  this  date  will 
make  so  bold  as  to  say  what  changes  in  the  economic  aspects  of  the 
industry  may  not  be  effected  before  the  end  of  the  present  decade  ? 
And  since  every  little  improvement,  every  little  reduction  in  working 
costs,  must  have  a  hugely  important  influence  on  millions  of  tons  of 
ore,  who  can  limit  or  determine  the  productive  era  of  the  Witwatcrs- 
rand  ?  In  any  case,  the  death  of  the  Rand  is  not  going  to  be  a  sudden 
affair.    The  decline  will  be  very  gradual  and  protracted." 


VII 

THE  STANDARD  QUESTION:    THE  CONTROL  OF 
PRICE  LEVELS 

Introduction 

In  this  chapter  we  are  concerned  only  with  tlie  standard  of  de- 
ferred payments.  It  has  been  noted  that  this  function  of  money  was 
of  later  origin  than  the  others,  being  necessarily  delayed  until  the 
development  of  contractual  relations  and  the  institution  of  credit 
had  given  rise  to  time  obligations.  Consequently,  in  the  early  periods 
of  monetary  history  the  question  of  deferred  payments  was  of  minor 
importance.  Today,  however,  it  is  the  paramount  issue  in  monetary 
discussion.  The  standard,  gold,  no  longer  serves  extensively  as  a 
medium  of  exchange,  and  as  a  common  denominator  of  value  for  a 
given  moment  of  time  it  gives  rise  to  no  real  problems.  It  is,  prac- 
tically speaking,  only  as  a  standard  of  deferred  payments  that  we 
have  at  the  present  time  a  monetary  problem  at  all,  so  far  as  gold  is 
concerned. 

It  has  been  noted  in  chapter  i  that  an  ideal  standard  of  deferred 
payments  should  be  absolutely  invariable,  like  a  yardstick,  and  that 
in  practice  we  should  choose  for  such  standard  a  commodity  as  nearly 
stable  in  value  as  possible.  The  evils  of  a  fluctuating  standard  of 
deferred  pa}Tnents  manifest  themselves  through  changing  price  levels. 
Obligations  payable  in  money  that  are  entered  into  at  one  price  level 
may  be  payable  at  a  future  date  when  the  level  of  prices  may  be 
substantially  lower  or  substantially  higher.  If  lower,  the  borrower 
finds  that  he  has  to  repay  a  greater  purchasing  power  than  he  received, 
or,  what  is  more  to  the  point,  he  finds  it  more  difficult  in  consequence 
of  lower  prices  (and  wages)  to  repay  his  loan  than  would  have  been 
the  case  at  the  former  level  of  prices.  If  prices  have  risen,  the  lender 
does  not  receive  back  a  purchasing  power  equivalent  to  that  given 
at  the  time  of  the  loan. 

While  the  greenback  and  silver  movements  in  the  United  States 
found  their  popular  support  partly,  perhaps  mainly,  in  the  desire  for  a 
larger  supply  of  money,  they  also  involved,  as  has  been  noted,  the 
injustice  to  debtors  caused  by  an  appreciating  standard  of  deferred 

258 


THE  STANDARD  QUESTION:   PRICE  LEVELS  259 

payments.  At  the  present  time  the  situation  is  reversed,  the  agita- 
tion over  the  high  cost  of  Uving  being  a  result  of  the  losses  suffered 
by  creditors — owners  of  bonds  and  other  long-time  investments — in 
consequence  of  rising  prices;  though  accompanying  this,  of  course, 
is  the  inequity  that  results  from  the  failure  of  salaries  and  wages  to 
advance  with  like  rapidity.  Former  eras  of  high  prices  have  also 
given  rise  to  discussion  of  the  question  of  deferred  payments  though 
perhaps  in  a  less  definite  way  so  far  as  the  general  public  has  been 
concerned.  The  public  attitude  toward  the  control  of  prices,  how- 
ever, is  shown  in  the  various  historical  attempts  in  almost  ever>' 
country  to  fix  the  prices  of  staple  products  and  to  punish  violations 
of  the  law  by  fines,  imprisonment,  and  even  death. 

Students  of  money  have  long  given  the  control  of  price  levels 
their  close  attention,  and  numerous  devices  have  been  suggested  for 
procuring  a  stable  standard  of  deferred  payments.  The  first  phase 
of  the  discussion  centered  around  the  choice  of  such  a  standard — 
whether  it  should  be  the  precious  metals  or  some  other  commodity, 
such  as  wheat  (corn),  or  whether  labor  might  not  serve  as  the  measure 
of  future  payments.  In  the  second  place,  the  argument  for  bimetal- 
lism, at  least  on  the  "scientific,"  as  distinguished  from  the  popular, 
side,  was  mainly  that  it  would  give  us  a  less  variable  standard  for 
deferred  payments.  A  third  device  was  that  of  the  tabular  standard, 
first  proposed  by  Mr.  Jevons  in  the  seventies'  after  a  long  period  of 
rising  prices,  and  discussed  by  economists  more  or  less  continuously 
ever  since.  Finally,  we  have  a  variation  of  the  tabular  method 
of  control  known  as  the  compensated  dollar.  First  suggested  by 
Williams  in  1S92,  it  has  again  been  independently  advanced  with 
much  refinement  and  elaboration  of  detail  by  Professor  Irving  Fisher. 
The  plan  has  been  the  subject  of  much  discussion  and  has  had  a  wide 
though  not  universal  indorsement  by  economists. 

143.    THE  NATURE  AND   PURrOSE  OF  THE  ISIULTIPLE 
STANDARD' 

By  DAVID   KINLEY 

The  unit  of  measure  under  the  talnilar  standard  is  the  aggregate 
price  at  a  given  time  of  a  long  list  of  articles,  a  dclinitc  quantity  and 
quality  of  each  being  chosen,  just  as  is  done  in  making  a  table  of  inde.x 

•  Jevons  gives  credit  for  suggestions  along  this  line  to  some  English  writers  as 
early  as  1830. 

» Adapted  from  Money,  pp.  276-77.    (The  Macmillan  Co.,  1904.) 


26o  PRINCIPLES  OF  MONEY  AND  HANKING 

numbers.  A  table  of  the  prices  of  these  articles  is  made  when  the 
debt  is  created,  and  again  when  it  is  to  be  paid.  If  we  call  the  sum 
of  the  prices  of  the  articles  at  the  creation  of  the  debt  loo,  then  the 
amount  of  money  to  be  paid  is  to  the  amount  borrowed  as  the  sum  of 
the  prices  at  the  time  of  payment  is  to  loo.  That  is,  the  debt  is 
really  regarded  as  consisting  of  as  many  units  of  the  tabular  standard 
as  the  money  loaned  would  buy  at  the  time  the  debt  was  incurred. 
The  amount  of  money  which  will  buy  these  units  when  the  debt  is 
due  is  what  the  debtor  pays.  For  example :  If,  on  the  first  of  January, 
A  borrows  $i,ooo  payable  in  one  year,  he  finds  the  number  of  units 
of  the  tabular  standard  which  $i,ooo  will  buy  on  January  first.  Sup- 
pose this  number  is  ten.  He  then  gives  his  creditor  a  note  for  ten 
units  of  the  tabular  standard,  and  on  the  first  of  the  following  January 
reference  is  made  to  the  price  list  then  existing,  to  determine  how 
much  money  the  units  of  the  tabular  standard  will  then  command. 
He  may  find  that  $990  will  buy  the  same  quantity  of  the  goods  used 
in  making  up  the  table  as  $1,000  would  buy  the  year  before.  In  that 
case  the  debt  is  settled  by  the  payment  of  $990. 

Of  course  it  would  be  necessary  to  have  some  means  of  msuring 
the  accuracy  of  the  prices  quoted  in  making  up  the  tabular  standard. 
This  would  be  done  by  creating  an  oflacial  commission,  whose  duty 
it  would  be  to  publish  at  stated  periods,  say  weekly  or  monthly, 
changes  which  have  taken  place  in  the  prices  of  commodities  entering 
into  the  table.  With  these  prices  in  hand,  it  would  be  an  easy  matter 
for  an  individual  to  find  out  what  his  debt  was  worth  in  money  at 
any  date.  If  the  tables  included  all  articles  sold  at  the  time,  in  the 
proportion  in  which  they  are  offered  for  sale,  and  if  the  amount  of 
each  article  in  the  table  were  scaled  down  so  that  the  price  of  the 
whole  should  become  that  of  a  unit  of  money,  the  tabular  unit  would 
become  what  we  have  called  the  composite  conomodity  unit.  The 
aim  of  the  tabular  standard  of  deferred  payments  is,  therefore,  to 
return  at  the  time  of  payment  as  many  such  composite  commodity 
units  as  the  money  borrowed  enabled  the  borrower  to  secure  at  the 
time  the  loan  was  made.  The  debtor,  by  this  method,  would  return 
the  same  income  in  goods  as  he  received. 

144.    INDEX  NUMBERS  AND  LEADING  PRICE  TABLES' 

An  index  number  or  relative  price  of  any  given  article  at  any 

given  date  is  the  percentage  which  the  price  of  that  article  at  that 

date  is  of  the  price  of  the  same  article  at  a  date  or  period  which  has 

^Bulletin  of  the  United  States  Bureau  of  Labor  Statistics,  VII  (1902),  195-214. 


THE  STANDARD  QUESTION:   PRICE  LEVELS  26 1 

been  selected  as  a  base  or  standard.  This  base  or  standard  varies 
in  the  different  series  of  index  numbers  which  have  been  presented  to 
the  public.  In  the  London  Economist^ s  index  numbers  the  average 
price  for  the  years  1845  to  1850,  inclusive,  is  taken  as  the  base;  in 
those  calculated  by  Mr.  Sauerbeck  the  average  for  the  eleven  years, 
1867  to  1877,  is  taken;  in  Soetbeer's  index  numbers  the  average  for 
the  four  years,  1847  to  1850,  is  used,  while  in  the  United  States  Senate 
Finance  Committee's  statement  of  relative  prices  the  price  for  the 
year  i860  is  taken  as  the  base  or  standard.  In  order  to  secure  the 
index  number  or  relative  price  for  any  article  at  any  date  in  the  period 
covered,  the  price  of  the  article  for  that  date  is  divided  by  the  price 
at  the  date,  or  by  the  average  price  for  the  period  selected  as  the  base. 
The  quotient  obtained  shows  what  percentage  the  price  at  the  given 
date  is  of  the  base  or  standard  price  and  is  called  the  index  number 
or  relative  price.  For  example,  the  percentage  for  flour  in  1885  in 
Mr.  Sauerbeck's  series  of  index  numbers  is  63,  meaning  that  the 
average  price  of  flour  in  1885  was  63  per  cent  of  the  average  price  of 
the  same  article  during  the  base  period  (1867-77).  This  base  being 
always  100,  a  fall  of  37  per  cent  is  indicated. 

These  percentages  having  been  made  in  the  case  of  each  separate 
article  included  in  the  particular  scheme  under  consideration,  and 
for  each  year  of  the  period  covered,  a  series  of  total  index  num- 
bers or  relative  prices  for  each  of  the  years  covered  is  usually  con- 
structed by  adding  together  the  index  numbers  of  all  the  articles 
for  each  year  and  dividing  the  result  by  the  number  of  articles  con- 
sidered, thus  securing  an  average  of  the  same. 

One  of  tlie  best  known  price  tables  is  that  of  the  London  Econo- 
mist, which  has  been  published  annually  since  1863.  It  is  based  on 
the  price  quotations  of  twenty-two  commodities,  as  follows:  coffee, 
sugar,  tea,  tobacco,  wheat,  butcher's  meat,  raw  cotton,  raw  silk,  flax 
and  hemp,  sheep's  wool,  indigo,  oils,  timber,  tallow,  leather,  copper, 
iron,  lead,  tin,  cotton  wool,  cotton  yarn,  cotton  cloth.  The  prices 
used  are  wholesale  quotations,  mainly  from  firms  engaged  in  trade  in 
the  London  and  Manchester  markets. 

The  most  widely  known  series  of  European  index  numbers,  aside 
from  those  of  the  London  Economist  and  Mr.  Sauerbeck,  is  that  of 
Dr.  Adolph  Soetbeer.  These  index  numbers  were  first  published  in 
1886  and  were  based  on  the  prices  of  the  Bureau  of  Commercial 
Statistics  of  Hamburg.  To  the  prices  secured  from  this  source  Dr. 
Soetbeer  added  those  of  several  articles,  such  as  potatoes,  meat,  etc., 


262  PRINCIPLKS  OF  MONEY  AND  HANKING 

which  were  obtained  from  the  records  of  hospitals  and  other  institu- 
tions in  Hamburg.  There  were  also  considered  the  prices  of  14  manu- 
factured articles  of  British  export.  In  all,  114  articles  are  included 
in  these  index  numbers.  The  table  runs  from  1851  to  1885,  with  a 
continuation  to  include  1891  by  Mr.  Heinz. 

Perhaps  the  largest  collection  of  prices  which  has  ever  been  made 
under  a  uniform  system,  with  the  exception  of  the  Bureau  of  Labor's 
table,  is  that  of  the  United  States  Senate  Finance  Committee,  com- 
monly known  as  the  Aldrich  Table.  It  covers  the  years  from  1840 
to  1 89 1.  The  prices  used  were  wholesale  prices,  and  in  most  instances 
were  taken  directly  from  the  books  of  merchants  and  manufacturers. 
The  exceptions  were  those  obtained  from  trade  journals,  large  buyers, 
etc.    The  base  or  standard  was  the  price  for  the  year  i860. 

The  index  number  of  the  United  States  Department  of  Labor 
represents  the  course  of  wholesale  prices  since  1890.  Two  hundred 
and  sixty-one  series  of  quotations  serve  as  the  basis  of  the  index 
number,  the  commodities  covered  being  classified  under  nine  general 
groups,  as  follows: 

Farm  products,  16  series  of  quotations. 

Food,  etc.,  54  series  of  quotations. 

Cloths  and  clothing,  76  series  of  quotations. 

Fuel  and  lighting,  13  series  of  quotations. 

Metals  and  implements,  39  series  of  quotations. 

Lumber  and  building  materials,  27  series  of  quotations. 

Drugs  and  chemicals,  9  series  of  quotations. 

House-furnishing  goods,  14  series  of  quotations. 

Miscellaneous,  13  series  of  quotations. 

The  prices  quoted  in  every  instance  are  wholesale  prices.  Whole- 
sale  prices  have  invariably  been  used  in  compilations  which  ha\-e 
been  made  for  the  purpose  of  showing  changes  in  the  general  price 
level.  They  are  more  sensitive  than  retail  prices  and  more  quickly 
reflect  changes  in  conditions.  Retail  prices  must  usually  follow  the 
wholesale,  but  not  generally  in  the  same  proportion.  The  margin 
between  them  in  the  case  of  some  commodities  is  so  great  that  slight 
changes  in  the  wholesale  price  do  not  affect  the  retail.  Changes  in 
the  wholesale  price,  also,  which  last  for  a  short  time  only  do  not 
usually  result  in  corresponding  changes  in  the  retail  price. 

These  prices  are  collected  from  the  best  available  sources,  such 
as  standard  trade  journals,  produce  exchanges,  and  leading  manu- 


THE  STANDARD  QUESTION:  PRICE  LEVELS  263 

facturers,  or  their  selling  agents,  reports  of  boards  of  trade  and 
chambers  of  commerce.  The  prices  quoted  are  usually  the  prices  in 
the  New  York  market,  except  for  such  articles  as  have  their  primary 
market  in  some  other  locality. 


145.    THE  FALLACY  OF  INDEX  NUMBERS' 
By  HAROLD   COX 

What  does  the  evidence  as  to  price  changes  that  is  alleged  to  be 
furnished  by  index  numbers  amount  to?  Here,  for  example,  are 
two  pairs  of  figures  taken  from  a  table  given  by  Mr.  Lay  ton  in  his 
little  book  on  the  Study  of  Prices.  Between  1891  and  1910  the  Sauer- 
beck index  number  for  food  prices /c//  from  77  to  74;  between  the 
same  two  years  the  index  number  for  raw  material  rqsc  from  68  to  81. 
Do  the  advocates  of  the  quantity  theory  expect  the  world  to  believe 
that  the  increased  output  of  gold  simultaneously  sent  do\\Ti  food 
prices  and  sent  up  the  prices  of  raw  materials  ? 

Let  us  look  at  the  matter  a  little  more  closely.  Mr.  Sauerbeck's 
numbers,  and  also  those  published  by  the  Economist,  are  obtained 
by  averaging  a  number  of  separate  prices  of  different  commodities. 
But  such  an  average  is  nothing  more  than  an  arithmetic  expression. 
For  example,  the  weekly  price  lists  published  in  the  Economist  show 
that  between  August  26,  191 1,  and  September  7,  1912,  copper  rose 
from  £59  iQS.  to  £'S>T,\  linseed  oil  fell  from  £42  55.  to  £33  155.;  beef 
rose  from  45.  to  45.  lod.;  butter  fell  from  1395.  to  1265.;  bacon  was 
stationary.  Is  it  seriously  contended  that  by  averaging  these  vari- 
ations we  can  determine  whether  gold  has  appreciated  or  depreciated  ? 
To  show  the  absurdity  of  such  a  proposition  it  is  sufficient  to  point 
out  that  the  average  would  be  altered  if  the  price  of  one  article  in 
the  list  changed  considerably  through  causes  admittedly  peculiar  to 
that  article.  With  all  respect  to  the  erninent  statisticians  who  work 
out  these  index  numbers,  it  is  no  more  possible  to  deduce  any  prac- 
tical inference  from  such  averages  than  it  is  to  infer  the  actual  depth 
of  a  river  at  any  given  point  from  the  statement  that  the  average  depth 
is  three  feet.  The  fallacy  of  averages  is  one  that  seems  ever  to  haunt 
the  human  mind. 

'Adapted  from  "Politics  and  Prices,"  Edinburgh  Review,  October,  191 2, 
pp.  482-83. 


264  PRINCIPLES  OF  MONEY  AND  BANKING 

146.    A  CRITICISM  OF  USUAL  INDEX  NUMBERS  AND 
PRICE  TABLES' 

By  WESLEY   C.   MITCHELL 


Making  an  index  number  involves  several  distinct  operations: 
(i)  defining  the  purpose  for  which  the  final  results  are  to  be  used;  (2) 
deciding  the  numbers  and  kinds  of  commodities  to  be  included; 
(3)  determining  whether  these  commodities  shall  all  be  treated  aUke 
or  whether  they  shall  be  weighted  according  to  their  relative  impor- 
tance; (4)  collecting  the  actual  prices  of  the  commodities  chosen 
and,  in  case  a  weighted  series  is  to  be  made,  collecting  also  data 
regarding  their  relative  importance;  (5)  deciding  whether  to  measure 
the  average  variations  of  prices  or  a  variation  of  a  sum  of  actual 
prices;  (6)  in  case  average  variations  are  to  be  measured,  choosing 
the  base  upon  which  relative  prices  shall  be  computed;  and  (7) 
settling  upon  the  form  of  average  to  be  struck. 

The  first  step,  framing  a  clear  idea  of  the  ultimate  use  to  which 
the  index  number  is  to  be  devoted,  is  most  important,  since  it  affords 
the  clue  to  guide  the  compiler  through  the  labyrinth  of  subsequent 
choices.  It  is,  however,  the  step  most  frequently  omitted.  Most 
of  the  widely  used  index  numbers  are  "general  purpose"  series, 
designed  with  no  aim  more  definite  than  that  of  measurmg  changes 
in  the  price  level.  Once  pubUshed  they  are  used  for  many  ends — to 
show  the  depreciation  of  gold,  the  rise  in  the  cost  of  hving,  the  alter- 
nations of  business  prosperity  and  depression,  and  the  allowance  to 
be  made  for  changed  prices  in  comparing  estimates  of  national  wealth 
or  private  income  at  different  times.  They  are  cited  to  prove  that 
wages  ought  to  be  advanced  or  kept  stable;  that  railway  rates  ought 
to  be  raised  or  lowered;  that  "trusts"  have  manipulated  the  prices 
of  their  products  to  the  benefit  or  the  injury  of  the  pubUc;  that 
tariff  changes  have  helped  or  harmed  producers  or  consumers;  that 
immigration  ought  to  be  encouraged  or  restricted;  that  the  monetary 
system  ought  to  be  reformed;  that  natural  resources  are  being  de- 
pleted or  that  the  national  dividend  is  growing.  They  are  called  in 
to  explain  why  bonds  have  fallen  in  price  and  why  interest  rates  have 
risen,  why  public  expenditures  have  increased,  why  social  unrest 
prevails  in  certain  years,  why  farmers  are  prosperous  or  the  reverse, 

'  Adapted  from  Bulletin  of  the  United  States  Bureau  of  Labor  Statistics,  1915, 
Whole  Number  173,  pp.  25-26. 


THE  STANDARD  QUESTION:  PRICE  LEVELS  265 

why  unemployment  fluctuates,  why  gold  is  being  imported  or  ex- 
ported, and  why  political  "landslides"  come  when  they  do. 

The  compiler  of  a  general-purpose  index  number,  then,  cannot 
foresee  to  what  uses  and  misuses  his  figures  will  be  put.  For  each  of 
the  legitimate  uses  he  might  conceivably  devise  an  appropriate  series. 
But  he  cannot  conceivably  devise  a  single  series  that  will  serve  all 
uses  equally  well.  The  very  qualities  that  make  an  index  number 
good  for  one  purpose  may  make  it  equally  bad  for  other  purposes. 

II 

The  price  tables  in  use  at  the  present  time  are  also  defective  in 
other  ways.'  Out  of  the  thousands  of  commodities  bought  and  sold, 
the  most  extensive  tables  quote  less  than  three  hundred.  The  selec- 
tion depends  less  on  the  information  which  is  desired  than  on  the 
information  which  happens  to  be  available.  Goods  which  change 
substantially  in  quality  from  year  to  year  must  be  rejected,  and 
for  goods  which  are  usually  the  subject  of  private  bargains  it  is 
difficult  to  secure  quotations.  For  the  most  part,  only  those  com- 
modities are  included  which  are  dealt  in  on  public  exchanges  and 
those  for  which  dealers  post  their  buying  and  seUing  prices.  Hence 
it  happens  that  the  various  parts  of  the  system  of  prices  are 
most  unevenly  covered.  Relatively  abundant  quotations  can  be 
had  for  the  staple  raw  materials,  while  the  data  concerning  manu- 
factured goods,  whether  used  by  producers  or  consumers,  are  rela- 
tively scanty.  Moreover,  the  market  reports  and  list  prices  given 
to  the  public  cannot  always  be  trusted,  because  many  transactions 
are  made  on  the  basis  of  concessions  from  or  additions  to  the  standard 
rates.  Particularly  in  times  of  crises,  when  the  markets  become 
"demoralized,"  and  in  times  of  intense  activity,  when  premiums  are 
paid  for  quick  deliveries,  the  published  table  probably  understates 
the  real  fall  and  rise  of  prices.  Finally  a  consitierable  part  of  the 
business  transacted  at  any  given  time  is  done  on  a  basis  of  prices 
fixed  by  earlier  contracts,  and  these  contract  prices  often  differ  from 
the  current  quotations.  With  all  its  defects,  however,  the  available 
material  can  be  made  to  yield  much  information  under  systematic 
examination. 

The  best  known  American,  English,  French,  and  German  scries 
differ  widely  in  the  number  and  character  of  the  commodities  included 
and  in  the  basis  of  computation,  and  hence  in  the  results  shown. 

■  Adapted  from  Business  Cycles,  pp.  93-113.     (University  of  California,  1Q13.) 


266  PRINCIPLES  OF  MONEY  AND  BANKING 

There  is  always  a  grave  question  as  to  how  far  they  may  be  regarded 
as  trustworthy  representatives  of  the  average  price  variations  in  the 
several  countries;  and  for  comparative  purposes  they  leave  the  gate 
open  for  quite  erroneous  conclusions. 

147.    CRITICISM  OF  THE  MULTIPLE  STANDARD' 
By  J.  LAURENCE  LAUGHLIN 

When  prices  fall  because  of  changes  in  the  arts  and  in  the  pro- 
ductive efficiency  of  society,  the  multiple  standard  does  not  subserve 
perfect  justice.  The  practical  question  is,  Who  is  entitled  to  the  gains 
of  industrial  society  ?  If  the  capital  of  $  1,000  which  A  owned  in  1880 
purchased  x  goods,  and  gave  forth  a  certain  industrial  result  in  the 
then  state  of  the  arts;  and  if  that  capital  while  in  the  hands  of  B,  the 
borrower,  due  solely  to  the  general  progress  of  the  arts  for  which 
neither  A  nor  B  is  directly  the  cause,  gave  forth  in  1900  a  greater 
industrial  result  (such  as  more  tons  of  coal  or  more  yards  of  cotton 
cloth),  does  that  additional  product,  n  goods,  belong  of  right  to  A  or 
to  B  ?  Should  the  result  of  the  efficiency  of  society  go  to  the  creditor 
or  to  the  debtor  ?  The  question  is  similar  to  that  of  deciding  to  whom 
should  go  the  increased  value  of  land  arising  from  the  growing  num- 
bers of  the  community — to  the  landowner  or  to  the  tenant.  The 
triumphs  of  chemistry  and  physics,  the  marvels  of  invention  and 
machinery,  become  the  general  property  of  the  industrial  world,  and 
any  one  debtor  or  any  one  creditor  can  claim  no  general  property 
in  these  results.  Therefore  neither  A  nor  B  has  any  moral  right  to 
the  additional  n  goods  which  have  issued  from  the  greater  efficiency 
of  labor  and  capital  under  the  improved  conditions  of  1900. 

The  multiple  standard,  however,  by  its  very  nature  assumes  that 
perfect  justice  is  rendered  through  the  return  by  the  debtor  to  the 
creditor  of  only  x  goods;  that  is,  the  multiple  standard  works  to  give 
the  n  goods  (due  to  the  progress  of  the  arts)  to  the  debtor  and  to  take 
them  away  from  the  creditor.  And  yet  it  has  been  seen  that  the 
debtor  has  no  moral  right  to  this  excess  of  goods.  The  conclusion,  if 
the  above  reasoning  be  accepted,  is  inevitable,  that  the  multiple 
standard  in  a  case  of  falling  prices  due  to  the  progress  of  society  does 
not  subserve  perfect  justice;  if  it  is  to  be  rejected,  it  must  be  on  this 
ground,  and  not  on  that  of  impracticabihty. 

'  Adapted  from  Principles  of  Money,  pp.  54-55.  (Charles  Scribner's  Sons, 
1903-) 


THE  STANDARD  QUESTION':    TRICE  LEVELS  267 

148.     PRACTICAL   OBJECTIONS   TO   THE   TABULAR 
STANDARD" 

By   IRVING    EISIIER 

On  the  whole,  the  "tabular  standard"  seems  to  have  real  merit. 
Certainly  there  could  be  no  material  harm  in  trying  a  "permissive" 
law,  that  is,  one  that  enables  anyone  who  chooses  to  make  a  time 
contract  in  terms  of  a  tabular  standard.  But  on  practical  grounds 
the  tabular  standard  is  subject  to  serious  if  not  fatal  objections. 
One  is  the  fact  that  it  would  involve  the  trouble  of  translating  money 
into  the  tabular  standard  and  would  therefore  fail  to  attract  the 
public  sufficiently  to  warrant  its  complete  adoption  by  any  govern- 
ment. Another  objection  is  that  its  half-way  adoption  would  really 
aggravate  many  of  the  evils  it  sought  to  correct,  and  therefore  dis- 
courage, rather  than  encourage,  its  further  e.xtension.  Even  were 
the  system  adopted  in  its  complete  form  for  any  one  country,  it  would 
have  the  disadvantage  of  isolating  that  country  commercially,  and 
thus  reintroduce  the  inconveniences  of  an  uncertain  rate  of  inter- 
national exchange.  An  analogous  inconvenience  would  arise  by  its 
partial  adoption  in  any  one  country.  Business  men  naturally  and 
properly  prefer  a  uniform  system  of  accounts  to  two  systems  warring 
with  each  other.  They  would  complain  of  such  a  double  system  of 
accounts  in  e.xactly  the  same  way  and  on  exactly  the  same  grounds 
as  they  have  always  complained  of  the  double  system  of  accounts 
involved  in  international  trade  between  gold  and  silver  countries.  A 
business  man's  profits  constitute  a  narrow  margin  between  receipts 
and  expenses.  If  receipts  and  expenses  could  both  be  reckoned  in 
the  tabular  standard,  his  profits  would  be  more  stable  than  if  both 
were  reckoned  in  money.  But  if  he  should  pay  some  of  his  expenses, 
such  as  interest  and  wages,  on  a  tabular  basis,  his  profits  would  fluctu- 
ate far  more  than  if  both  sides,  or  all  items  of  the  accounts,  were  in 
gold.  In  fact,  his  expected  profits  would  often  turn  into  losses  by  a 
slight  deviation  between  the  two  standards,  in  precisely  the  same 
way  as  the  importer  or  exporter  of  goods  between  China  and  the 
United  States  may  have  his  profits  wiped  out  by  a  slight  variation 
in  the  exchange.  In  either  case,  he  would  prefer  to  have  the  same 
standard  on  both  sides  of  the  account,  even  if  this  standard  fluctuated, 
rather  than  have  two  standards,  only  one  of  which  fluctuated;   for 

'  Adapted  from  the  Piirchiising  Power  of  Money,  pp.  335-37-  (Tlic  Macmillan 
Co.,  191 1.) 


268  PRINCIPLES  OF  MONEY  AND  BANKING 

his  profits  depend  more  on  the  paralleHsm  between  the  two  sides  of 
his  account  than  on  the  stabihty  of  either. 

149.    THE  COMPENSATED   DOLLAR* 
By  IRVING  FISHER 

The  following  plan,  which  may  be  called  "the  adjustable  seign- 
iorage plan,"  is  an  attempt  to  make  the  purchasing  power  of  the  dollar 
constant.  We  have  at  present  a  gold  dollar  of  constant  weight,  but 
of  varying  purchasing  power.  We  need  a  dollar  of  constant  purchas- 
ing power  and  varying  weight. 

The  present  proposal  is  to  increase  and  vary,  from  time  to  time, 
the  weight  of  the  bullion  dollar,  without  necessarily  disturbing  the 
weight  of  the  coined  dollar.  Suppose,  for  instance,  that  the  buUion 
dollar  had  been  gradually  increased  since  1896  until  today  it  were 
50  per  cent  heavier,  or  38.7  grains,  while  the  coined  dollar  were  still 
25.8  grains.  This  means  that  the  government  would  redeem  on 
demand  each  coined  dollar  in  38.7  grains  of  gold  bullion.  Gold 
dollars  would  then  be  mere  tokens,  like  brass  checks,  entitling  the 
holder  to  gold  bullion  just  as  our  gold  certificates  now  entitle  the  holder 
to  so  much  gold  (coin  or  bullion)  in  the  United  States  Treasury.  As 
to  convertibility  in  the  other  direction,  the  government  mint  would 
stand  ready  to  give  back  a  coined  dollar  for  each  38.7  grains  of  bullion 
plus  a  slight  coinage  fee  or  "brassage"  of,  say,  i  per  cent.  This 
brassage  charge  would  serve,  as  afterward  explained,  to  prevent  loss 
to  the  government  by  speculation.  If  i  per  cent,  it  would  be  0.387 
grains,  to  be  added  to  the  38.7,  making  39.087  grains  in  all  as  the 
bullion  required  at  the  mint  to  secure  a  "coined  dollar." 

The  difference  between  the  bullion  required  by  the  mint  (39.087 
grains)  and  the  coin  dollar  (25.8  grains)  is  13.287  grains  and  would 
be  retained  by  the  government  to  strengthen  its  bullion  reserve  for 
redeeming  gold  coin.  Of  this  13.287  only  0.387  is  brassage;  the 
remainder,  12.9  grains,  may  for  distinction  of  terms  be  called  seign- 
orage.  Thus  in  weight  the  bullion  dollar  is  the  coin  dollar  plus 
seignorage,  and  the  bullion  dollar  required  by  the  mint  is  the  amount 
of  this  bullion  dollar  plus  "brassage." 

An  obvious  proviso  in  the  proposed  plan  would  be  that  the  bulHon 
dollar  must  never  be  lighter  than  the  coin  dollar.    The  present  indi- 

'  From  various  writings  of  Irving  Fisher  as  adapted  by  Marshall,  Wright, 
and  Field  in  Materials  for  the  Study  of  Elementary  Economics.  The  University  of 
Chicago  Press. 


THE  STANDARD  QUESTION:  PRICE  LEVELS  269 

cations  are  that  the  dollar,  in  order  to  maintain  the  same  purchasing 
power,  will  need  in  general  to  increase,  for  further  depreciation  of 
gold  seems  probable.  If,  however,  it  should  even  happen  that  the 
proposed  bullion  dollar  should  shrink  in  weight  again  to  25.8  grains, 
then  the  proviso  that  it  should  never  shrink  lower  would  come  into 
operation.  It  would  then  have  to  remain  25.8  until  the  weight  re- 
quired for  the  bullion  dollar  should  again  rise  above  25.8  grains.  So 
long  as  it  remained  25.8  grains  it  would  cease  to  be  adjustable  and  to 
maintain  a  constant  purchasing  power.  We  should  during  this  period 
simply  be  in  the  same  condition  that  we  are  in  at  present. 

With  a  coin  dollar  weighing  25.8  grains  and  with  the  bullion 
dollar  never  lighter  than  25.8  grains,  the  price  of  gold  bullion  can 
never  be  higher  than  $18.60.  But  this  limit  or  barrier  can  at  any 
time  be  made  to  recede  simply  by  reducing  the  weight  of  the  coin 
dollar  through  recoinage.  It  might  even  be  advisable,  in  order  to 
secure  a  wide  margin  between  the  coin  and  the  bullion  dollar,  to 
begin  the  new  system  by  recoining  at  the  outset  all  present  gold  coin 
into  coins  of  less  weight,  the  government  keeping  the  difference  as  a 
reserve  to  help  create  its  bullion  reserve  needed  for  operating  the 
proposed  system.  This  would,  incidentally,  have  the  fiscal  advantage 
of  saving  the  expense  of  creating  such  a  reserve  by  taxation  or  loans. 

We  now  come  to  another  important  restriction  on  changes  in  the 
weight  of  the  bullion  dollar  which  should  be  imposed  in  order  to 
prevent  speculation  embarrassing  to  the  government.  This  restric- 
tion is  that  no  single  shift  in  the  bullion  dollar  may  exceed  the  extent 
of  the  brassage.  That  is,  if  the  brassage  is  i  per  cent,  no  one  shift 
shall  exceed  i  per  cent. 

If  this  were  not  provided  but  the  bullion  dollar  should  at  any  time 
be  raised  more  than  i  per  cent,  if,  e.g.,  the  shift  was  from  a  bullion 
dollar  of  38.7  grains  to  40  grains  (and  from  a  quantum  of  bullion 
required  by  the  mint  of  39.087  grains  to  40.40  grains),  the  government 
might  be  embarrassed  by  speculation.  The  new  pair  of  figures  (40 
and  40.40)  would  both  be  above  the  range  of  the  old  pair  (38. 7  and 
39.087);  that  is,  the  lower  (40)  of  the  new  pair  would  be  higher  than 
the  higher  (39.087)  of  the  old  pair.  When  it  was  known  or  expected 
that  these  changes  were  to  be  made  on  a  certain  date,  speculators 
would  hurry  bullion  to  the  mint  in  advance  of  that  date  and  for  each 
39.0S7  grains  receive  a  coin  dollar.  With  this  dollar  they  could,  as 
soon  as  the  set  date  arrived,  return  and  demand  redemption  in  40 
grains.    Thus  they  would  win  overnight  40—39.087,  or  0.913  grains 


27©  PRINCIPLES  OF  MONEY  AND  BANKING 

on  each  39.087  grains  originally  held.  Again,  if  ihe  bullion  dollar 
were  changed  too  much  at  any  time  in  the  opposite  direction,  as,  say, 
from  39.7  grains  to  37  grains,  owners  of  gold  coin  could  get  it  redeemed 
in  bullion  at  the  old  rate  today  and  mint  this  bullion  at  the  new  rate 
tomorrow.  Each  coin  dollar  they  could  redeem  today  in  38.7  grains 
gold  bullion  and  tomorrow  under  the  new  arrangement  they  could 
get  a  dollar  from  the  mint  for  only  37  grains  plus  i  per  cent  brassage, 
or  37.37  grains,  still  leaving  38.7  —  37.37,  or  0.33  grains  of  bullion  for 
overnight  profit  on  each  original  dollar  invested  in  the  speculation. 

But  if  the  permissible  shift  in  weight  of  the  bullion  dollar  were 
not  over  i  per  cent  in  either  direction,  no  such  profit  would  be  possible. 
The  restriction  in  the  shift  to  i  per  cent  at  a  time  is  ample  to  permit 
of  all  the  movement  ordinarily  required,  provided  the  shift  is  made 
often  enough.  It  might  be  monthly,  or  12  per  cent  per  annum;  it 
might  be  bimonthly,  or  6  per  cent  per  annum;  it  might  be  quarterly, 
or  4  per  cent  per  annum.  Moreover,  the  margin  for  each  shift  might 
be  narrowed  or  widened  by  making  the  brassage  three-fourths  of  i 
per  cent  or  less,  or  i|  per  cent  or  more. 

One  important  question  remains:  How  can  we  know  what  changes 
to  make  from  time  to  time  in  the  weight  of  the  bullion  dollar  ?  The 
answer  is:  By  index  numbers  of  prices,  such  as  those  of  the  United 
States  Bureau  of  Labor,  Bradstreet,  Gibson,  Sauerbeck,  the  Econo- 
mist, or  the  British  Board  of  Trade.  Any  of  these  would  afford  a 
good  guide  and  they  all  agree  fairly  well. 

When  once  a  system  of  index  numbers  is  fixed  upon,  their  numeri- 
cal calculation  becomes  a  mere  matter  of  clerical  arithmetic.  If  the 
oflScial  index  number  should  show  the  price  level  to  be,  say,  one-half 
of  I  per  cent  above  the  base  level  from  which  the  system  started,  it 
would  become  mandatory  to  increase  the  gold  bullion  dollar  by  one- 
half  of  I  per  cent  (i.e.,  to  decrease  the  bullion  prices  by  one-half  of 
I  per  cent),  and  so  on  for  any  increase  or  decrease — subject,  of  course, 
to  the  restrictions  above  imposed.  Thus  if  the  price  level  were  i  per 
cent  below  normal,  the  bullion  dollar  could  be  reduced  by  only  i 
per  cent  in  any  one  quarter  of  the  year;  but  the  full  correction  could 
be  reached  in  three  quarters  unless  the  deviation  were  aggravated 
in  the  meantime;  and  in  that  case  the  correction  would  follow  steadily 
on  the  heels  of  the  deviation.  Except  in  paper-money  times  there 
never  was,  I  think,  a  historical  case  of  a  persistent  rise  of  prices  over 
any  large  part  of  the  world  as  great  as  i  per  cent  a  quarter  or  4  per 
cent  a  year  for  more  than  two  or  three  years,  while  the  falls  of  prices 


THE  STANDARD  QUESTION:   PRICE  LEVELS  271 

have  been  less  violent,  excepting  after  crises.    Under  the  system  here 
proposed  there  would  be  little  opportunity  for  crises  to  incubate. 


ISO.    CRITICISM  OF  THE  COMPENSATED  DOLLAR* 
By  F.   W.  TAUSSIG 


It  must  be  admitted  at  the  outset  that  the  plan,  if  carried  out  with 
iron  consistency  for  a  considerable  stretch  of  time,  would  achieve 
the  result  mainly  had  in  view — the  prevention  of  a  long-continued 
and  considerable  rise  in  prices.  No  one  who  holds  to  the  doctrine 
that  the  general  range  of  prices  is  determined  by  the  relation  between 
the  quantity  of  commodities  and  the  volume  of  the  circulating  me- 
dium, and  that  the  volume  of  the  circulating  medium  in  the  end 
depends,  ceteris  paribus,  on  the  amount  of  coined  money,  can  do 
otherwise  than  admit  the  logical  soundness  of  the  scheme. 

More  stress  should  be  laid,  however,  than  Professor  Fisher  lays, 
on  the  fact  that  the  plan  can  work  out  its  results  only  through  its 
effects  on  the  quantity  of  coined  gold.  The  connection  between  the 
quantity  of  coined  money  and  general  prices  is  by  no  means  a  close 
one.  It  is  not  only  loose  and  uncertain,  but  we  are  much  in  the  dark 
concerning  the  degree  of  looseness  and  uncertainty.  Economists 
should  be  very  chary  of  prediction  in  such  matters,  and  Professor 
Fisher  makes  prediction  which  the  event  might  greatly  falsify.  It 
seems  highly  improbable  that  fluctuations  in  prices  would  cease,  or 
that  a  smooth  course  would  be  followed  as  is  indicated  on  Professor 
Fisher's  chart.  So  long  as  the  modem  mechanism  of  credit  continues 
to  be  used  fluctuations  in  prices  seem  to  me  inevitable.  A  long- 
continued  considerable  advance  would  alone  be  prevented.  Com- 
mercial crises  would  not  be  prevented,  nor,  in  my  judgment,  ap- 
preciably abated.  Professor  Fisher's  predictions  on  this  subject  rest 
upon  the  particular  theory  of  commercial  crises  which  he  has  devel- 
oped elsewhere.  That  theory  does  not  seem  to  me  established, 
and  I  have  little  faith  in  predictions  that  are  based  upon  it.  Xor 
do  I  believe  that  labor  discontent  is  as  closely  connected  with  changes 
in  general  prices  as  Professor  Fisher  intimates. 

'  Adapted  from  "The  Plan  for  a  Compensated  Dollar,"  Quarterly  Journal  of 
Econoni!Cs,XX\ll  (1913),  402-16.  As  adapted  by  Marshall,  Wright,  and  Eicld  in 
Materials  for  the  Study  of  Elementary  Eeotiomies.    The  University  of  Chicago  Press. 


272  PRLNCIl'LES  OF  MONEY  AND  BANKING 

II 

What  is  to  be  said  now  of  the  possibility  of  securing  the  adoption 
of  such  a  plan  ? 

An  international  agreement  for  its  adoption  seems  to  me  in  the 
highest  degree  unlikely.  Let  it  be  recalled  how  repeated  were  the 
endeavors,  under  stress  greater  than  felt  in  recent  years,  to  bring 
about  an  agreement  for  international  bimetallism.  A  fall  in  general 
prices  and  in  money  incomes  is  a  phenomenon  much  more  unwelcome 
than  a  rise.  The  earlier  fall  in  prices,  moreover,  was  bitterly  felt, 
not  only  by  the  debtor  classes,  but  by  all  the  protectionists.  The 
movement  for  international  bimetallism  had  powerful  support  in 
political  circles  as  well  as  among  the  economists.  Yet  it  never  had  a 
ghost  of  a  chance.  So  great  is  the  rivalry  between  nations,  so  intent 
is  each  upon  its  own  advantage,  so  jealous  are  they  of  each  other,  so 
strong  above  all  is  the  spirit  of  selfishness  and  mercantilism  in  their 
economic  policies,  that  it  seems  to  me  hopeless  to  expect  them  to 
come  to  an  understanding  on  a  matter  of  this  sort. 

Even  if,  by  some  unexpected  stroke,  an  international  agreement 
were  to  be  secured,  it  would  rest  upon  the  frailest  basis.  Any  war 
would  put  an  end  to  it.  Any  stage  of  depression  in  an  important 
country  would  render  it  in  the  highest  degree  irksome,  would  lead  to 
its  revocation  by  some  one  country,  and  then  would  cause  the  whole 
structure  to  topple  over.  Not  least,  there  would  be  differences  con- 
cerning the  index  number  of  prices  to  be  used  in  fixing  the  seignorage. 
Prices  do  not  move  parallel  in  different  countries.  It  is  inevitable 
that  they  should  sometimes  rise  in  one  coimtry  while  faUing  in 
another;  or  rise  in  one  more  than  in  another,  or  fall  more.  Which 
coimtry's  index  number  should  govern  ?  If  indeed  all  countries  were 
convinced  that  a  disastrous  depreciation  of  money  were  impending, 
and  if  they  were  resolutely  determined  to  sink  all  differences  and  all 
selfish  interests  in  order  to  prevent  it,  they  might  act  on  the  basis  of  a 
compromise  index  number  settled  by  an  international  commission. 
But  the  mere  mention  of  these  conditions  precedent  suffices  to  show 
how  far  they  are  from  being  present. 

The  question  arises  whether  it  would  be  feasible  for  one  country 
to  adopt  the  plan.  It  would  be  feasible  in  the  same  sense  that  it 
would  be  feasible  for  all  countries  together  to  adopt  it.  One  country 
alone,  carrying  it  out  with  unflinching  consistency,  might  secure  the 
desired  result,  subject  to  the  qualifications  which  have  already  been 


THE  STANDARD  QUESTION:   PRICE  LEVELS  273 

indicated.    But  that  any  one  country  would,  in  fact,  adopt  it  alone 
seems  to  me  in  the  highest  degree  improbable. 

Consider  for  a  moment  the  mode  in  which  the  scheme  would 
work  in  detail  if  adopted  by  a  single  country.  The  immediate  eflect 
of  a  seignorage  would  be,  as  Professor  Fisher  points  out,  a  readjust- 
ment of  the  par  of  foreign  exchange.  The  exporter  would  find  the  par 
of  exchange  lessened,  and  in  terms  of  domestic  money  (compensated 
dollars)  he  would  receive  less  than  he  got  before.  All  commodities  of 
export  would  fall  in  price  at  once  or  fail  to  rise  to  the  extent  of  the 
seignorage.  The  exporters  would  be  as  hotly  indignant  with  the 
plan  as  if  an  excise  tax  had  been  imposed  on  their  commodities 
without  any  possibility  of  their  raising  the  price  of  their  products. 
Consider  for  a  moment  what  would  be  the  state  of  mind  of  our  cotton- 
exporting  South.  Is  it  to  be  supposed  that  any  set  of  legislators  could 
resist  the  political  pressure  from  the  various  exporting  sections  and 
carry  out  the  scheme  unflinchingly  ?  Can  we  imagine  a  congressman 
telling  his  constituents  that  they  need  only  wait  a  while,  until  all 
money  incomes  and  all  prices  had  adjusted  themselves  to  the  new 
conditions  ?  that  then  nobody  would  be  worse  off  or  better  off  than 
before  ?    To  ask  this  sort  of  question  is  to  answer  it. 

Ill 

In  view  of  all  these  complications,  uncertainties,  and  political 
and  sectional  obstacles,  the  question  presents  itself  whether  the 
emergency  is  so  serious,  the  evil  so  great,  the  gain  to  be  secured  so 
unmistakable,  that  it  is  worth  while  to  press  so  far-reaching  a  change. 

Professor  Fisher  has  predicted  that  prices  will  rise  further.  He 
is  disposed  to  believe  that  there  will  be,  not  only  a  rise,  but  that  there 
will  be  a  considerable  rise.  I  hesitate  to  enter  the  domain  of  predic- 
tion. I  am  inclined  to  believe  that  the  rise  in  prices  will  not  cease 
for  the  next  decade;  but  whether  it  will  be  considerable  or  moderate 
or  negligible  in  extent  I  should  not  venture  to  say.  Predictions  con- 
cerning the  output  from  the  mines  are  to  be  taken  with  the  greatest 
caution.  We  all  recall  the  predictions  which  Suess  made  in  1892. 
The  distinguished  geologist  believed  that  the  prospects  of  an  increased 
production  of  gold  were  of  the  slightest,  and  that  the  world  must  fall 
back  on  the  use  of  both  metals.  How  diflcrent  the  course  has  been 
from  that  which  he  jircclicted!  There  are  tliose  who  Ijclicvc  that  the 
output  of  gold,  so  far  from  continuing  to  increase,  has  reached,  or  is 


274  PRINCIPLES  OF  MONEY  AND  BANKING 

approaching,  its  maximum.  For  myself,  I  should  not  be  surprised 
if  there  were  a  cessation  in  growth,  and  should  certainly  be  surprised  if 
there  were  not  a  relaxation  in  the  rate  of  growth. 

Further:  it  deserves  to  be  borne  in  mind  that  the  total  supply 
of  the  precious  metals  is  now  so  much  greater  than  it  was  twenty 
years  ago  that  the  same  annual  increment  will  have  much  less  effect 
on  prices.  This  is  the  familiar  consequence  of  the  durability  of  the 
precious  metals. 

Finally,  a  circumstance  should  be  borne  in  mind  which  bears,  not 
only  upon  the  intrinsic  desirability  of  a  regulative  plan,  but  also  upon 
the  attitude  of  the  general  public  and  the  consequent  pohtical  and 
industrial  possibilities.  The  economist  is  thinking  and  reasoning 
about  the  change  which  has  been  of  special  interest  for  him,  the 
general  rise  in  prices.  The  man  on  the  street  is  thinking  about  the 
exceptional  rise  in  prices  of  one  important  set  of  commodities.  Any- 
one who  will  examine  with  care  the  index  numbers  of  our  Bureau  of 
Labor  will  see  what  a  marked  rise,  much  beyond  that  of  the  general 
index  number,  has  appeared  in  the  prices  of  farm  products,  and  espe- 
cially in  the  prices  of  meat.  That  special  advance  has  taken  place 
within  the  last  three  or  four  years.  It  is  precisely  within  this  period 
that  general  attention  has  been  turned  to  rising  prices.  What  the 
public  has  had  chiefly  in  mind  has  not  been  the  general  change, 
but  the  particular  change  in  the  commodities  of  wide  consumption. 
This,  I  believe,  is  the  main  cause  of  labor  unrest. 

Whatever  be  the  particular  causes  that  have  led  to  the  high 
prices  of  food,  economists  agree  that  these  causes  wiU  operate  irre- 
spective of  any  compensated-dollar  plan.  This  would  simply  serve, 
at  its  best,  to  keep  general  prices  where  they  are,  leaving  each  par- 
ticular group  of  commodities  to  its  own  particular  causes.  If  the 
compensated-dollar  plan  were  to  be  adopted,  and  if  the  prices  of  food 
should  continue  to  mount,  there  would  be  disappointment  for  the  gen- 
eral public,  but  nothing  to  surprise  the  economist.  And,  conversely, 
it  is  entirely  possible  that  the  rise  in  the  cost  of  living,  that  is,  the 
special  rise  in  the  prices  of  foodstuffs,  will  reach  its  end  irrespective 
of  any  monetary  change  whatever.  The  general  rise  in  prices  and 
money  incomes,  to  repeat  what  has  already  been  said,  is  not  unwel- 
come to  the  great  majority  of  people.  Its  incidental  consequences 
are  perceived  and  debated  chiefly  by  the  economists,  such  as  the 
effects  on  the  creditor  class  and  the  slowness  of  so-called  fixed  incomes 
to  rise  accordingly.    The  general  public  is  concerned  chiefly  with  the 


THE  STANDARD  QUESTION:   PRICE  LEVELS  275 

conspicuous  rise  in  the  prices  of  foodstuffs,  which  is  ascribable  to  causes 
very  different  from  those  that  bring  the  general  rise,  and  can  be 
reached  only  by  remedies  very  different. 

In  sum,  I  am  not  convinced  that  the  evils  of  the  present  s\stem 
are  so  great  as  to  call  for  the  extraordinary  remedy  proposed.  If, 
indeed,  consequences  of  the  most  serious  sort  were  imminent  from  an 
overwhelming  increase  in  the  gold  supply,  we  might  feel  disposed  to 
move  heaven  and  earth  to  prevent  them.  Obstacles  from  international 
jealousy,  or  from  widespread  misconceptions  and  fallacies,  could  then 
only  spur  us  to  greater  exertions.  But  if  the  evils  are  as  yet  not 
unbearable;  if  those  against  which  the  public  most  rebels  are  due 
chiefly  to  other  causes  than  the  mere  increase  in  gold  supply;  if  the 
remedy  proposed  is  one  whose  operation  is  far  from  certain,  hkeh'  to 
lead  to  complications  of  its  own,  and  in  danger  of  being  discarded  on 
its  first  failure  to  work  a  cure,  let  us  bear  tlie  ills  we  have. 


VIII 

THE  EXISTING  SYSTEM  OF  THE  UNITED  STATES 
AND  PRINCIPLES  OF  REGULATION 

Introduction 

The  present  monetary  system  of  the  United  States  and  the  vari- 
ous provisions  with  reference  to  legal  tender,  redemption,  etc.,  show 
at  every  hand  the  marks  of  our  checkered  monetary  history.  Many 
of  the  provisions  that  exist  are  mere  survivals  and  are  under- 
standable only  by  reference  to  our  earlier  history.  On  the  other 
hand,  there  are  numerous  important  principles  in  use  today  that  have 
been  developed  out  of  our  varied  experience — principles  which  give 
to  the  present  system  as  a  whole  a  reasonable  degree  of  safety  and 
economy.  The  greenbacks,  however,  appear  to  remain  a  source  of 
more  or  less  apprehension,  particularly  since  the  passage  of  the 
Federal  Reserve  Act.  But  while  the  system  is  on  the  whole  safe 
enough,  it  appears  to  be  unnecessarily  comphcated  and  clumsy.  The 
elimination  of  certain  of  the  forms  of  currency  in  use  and  a  thorough 
overhauhng  of  the  laws  with  a  view  to  simpHfying  and  unifjdng  them 
would  prove  a  very  useful  service. 

All  this,  however,  relates  only  to  monjey  that  is  issued  or  controlled 
by  the  government  directly.  Paper  money  issued  by  banks  and 
checks,  or  deposit  currency,  remain  to  be  treated  as  separate  problems 
in  themselves.  It  is  these  forms  of  currency  that  are  designed  to 
give  the  necessary  flexibility,  or  elasticity,  to  the  monetary  system 
as  a  whole ;  and  as  such  they  give  rise  to  problems  of  pecuHar  difficulty. 
The  treatment  of  these  forms  of  currency,  however,  must  be  reserved 
until  the  general  principles  of  banking  and  credit  have  been 
discussed. 

151.    VARIOUS  FORMS  OF  MONEY  IN  THE  UNITED  STATES' 

A.     GOLD  COINS 

While  the  gold  dollar  is  the  unit  and  standard  of  value,  the  actual 
coinage  of  tlie  $1  piece  was  discontinued  under  authority  of  the  act 
of  September  26,  1890.     Gold  is  now  coined  in  denominations  of 

'Adapted  from  Circular  No.  52  of  the  United  States  Treasury  Department, 
1910. 

276 


UNITED  STATES  SYSTEM  AND  REGLLATIOX  277 

$2.50,  $5,  $10,  and  $20,  called,  respectively,  quarter-eagle,  half-eagle, 
eagle,  and  double  eagle. 

The  total  coinage  of  gold  by  the  mints  in  the  United  States  from 
1792  to  June  30,  1910,  is  $3,149,207,670.50,  of  which  it  is  estimated 
that  $1,531,074,997  is  now  in  existence  as  coin  in  the  United  States, 
while  the  remainder,  $1,618,132,673.50  represents  the  excess  of  exports 
over  imports  and  the  amount  consumed  in  the  arts.  The  gold  bullion 
now  in  the  United  States  is  about  $105,000,000. 

B.  SILVER   COINS 

The  standard  silver  dollar  was  first  authorized  by  the  act  of 
April  12,  1792.  Its  weight  was  416  grains  .8924  fine.  It  contained 
the  same  quantity  of  fine  silver  as  the  present  dollar,  whose  weight 
and  fineness  were  established  by  the  act  of  January  18,  1837.  The 
coinage  of  the  standard  silver  dollar  was  discontinued  by  the  act  of 
February  10,  1873,  and  it  was  restored  by  the  act  of  February  28, 
1878.  The  total  amount  coined  from  1792  to  1873  was  $8,031,238, 
and  the  amount  coined  from  1878  to  December  31,  1904,  when  the 
coinage  was  discontinued,  was  $570,272,610. 

The  subsidiary  silver  coins  authorized  by  the  act  of  April  2,  1792, 
are  the  half-dollar,  quarter-dollar,  dime,  and  half-dime.  The  half- 
dime,  has,  however,  been  discontinued  as  being  inconveniently  small. 
The  subsidiary  silver  was  originally  of  proportional  weight  with  the 
dollar,  but  since  1853  has  been  coined  about  7  per  cent  lighter. 

The  amount  of  full-weight  fractional  silver  coined  prior  to  Febru- 
ary 21,  1853,  was  $71,734,964.50,  and  the  amount  of  subsidiary  silver 
coined  since  that  year  is  $272,331,351.45. 

"In  order  to  procure  bullion  for  the  subsidiary  silver  coinage, 
the  superintendents  with  the  approval  of  the  Director  of  the  Mint, 
as  to  prices,  terms,  and  quantity,  shall  purchase  such  bullion  with 
the  bullion  fund.  The  seignorage  thereon  shall  be  credited  to  a 
special  fund  denominated  the  silver  profit  fund."  (Revised  Statutes, 
sec.  3526). 

C.  MINOR   COINS 

The  minor  coins  of  the  United  States  shall  be  a  five-cent  piece  and 
a  one-cent  piece.  The  alloy  for  the  five-cent  piece  shall  be  of  copper 
and  nickel,  to  be  composed  of  three-fourths  copper  and  one-fourth 
nickel.  The  alloy  of  the  one-cent  piece  shall  be  95  per  cent  of  copper 
and  5  per  cent  of  tin  and  zinc.    For  the  purchase  of  metal  for  the  minor 


278  PRINCIPLES  OF  MONEY  AND  BANKING 

coinage  a  sum  of  not  exceeding  $250,000  shall  be  transferred  by  the 
Secretary  of  the  Treasury  to  the  credit  of  the  superintendent  of  the 
mint  at  Philadelphia.  The  seignorage  arising  from  the  coinage  of 
the  minor  coins  shall  be  credited  to  a  special  fund  known  as  the  minor- 
coinage  profit  fund,  the  balance  of  which  shall  be  from  time  to  time, 
at  least  twice  a  year,  covered  into  the  Treasury  (Revised  Statutes, 
sees.  3515  and  352S). 

D.     UNITED   STATES   NOTES 

The  United  States  notes  or  "greenbacks"  were  first  issued  during 
the  Civil  War  to  meet  the  expenses  of  the  government.  Since  1879 
there  have  been  outstanding  $346,681,016.  They  are  backed  by  a 
cash  reserve  of  $150,000,000  as  a  special  fund  in  the  Treasury.  The 
amount  never  increases  or  decreases,  for  the  law  provides  that  if 
redeemed  in  cash  at  the  Treasury  they  shall  be  promptly  reissued. 
They  are  mainly  in  five-  and  ten-dollar  denominations  and  fill  a  sort 
of  middle  place  in  our  currency. 

E.     TREASURY   NOTES    OF    1890 

These  government  notes  were  issued  in  the  purchase  of  silver 
bullion  under  the  terms  of  the  Sherman  Silver  Purchase  Act  of  1890. 
There  were  in  1893  some  $155,000,000  outstanding;  but  they  are  now 
canceled  as  fast  as  received  at  the  Treasury,  so  that  they  are  con- 
stantly disappearing  from  circulation.  Originally  amounting  to 
$155,931,002,  there  were  left  outstanding  in  1913  only  $2,709,000. 
They  are  in  various  denominations.  When  retired,  their  place  is 
taken  directly  by  silver  dollars  coined  from  the  bullion  originally 
purchased  with  the  notes;  indirectly  their  place  is  filled  by  silver 
certificates  issued  as  representative  of  silver  coin. 

F.     GOLD   CERTIFICATES 

These  certificates  date  back  to  the  Civil  War.  The  inconven- 
ience of  gold  for  everyday  exchange  transactions  led  to  an  author- 
ization of  the  Secretary  of  the  Treasury  to  receive  gold  in  sums  of  not 
less  than  $20  and  to  issue  certificates  in  their  place.  None  may  be 
issued  in  a  denomination  of  less  than  $10.  It  is  provided  that  at  least 
one-fourth  of  the  certificates  shall  be  in  denominations  of  $50  or 
less.  They  are  designed  to  meet  the  needs  of  our  large  monetary 
transactions.  The  total  amount  of  gold  certificates  now  outside  the 
Treasury  is  $802,754,199. 


UNITED  STATES  SYSTEM  AND  REGULATION  279 

G.     SILVER   CERTIFICATES 

The  use  of  silver  certificates  dates  back  to  1S7S,  being  authorized 
by  the  Bland-Allison  Act.  The  Secretary  of  the  Treasury  is  required 
to  accept  all  silver  in  sums  of  not  less  than  Sio,  and  to  issue  certificates 
therefor  in  denominations  of  $10  and  less.  They  form  tJie  bulk  of 
our  small  bills  and  have  largely  superseded  the  use  of  the  silver  they 
represent.  The  amount  outside  the  Treasury  on  July  i,  19 10,  was 
$478,597,238,  while  the  amount  of  silver  dollars  outstanding  was  only 
$72,432,514.' 


152.     REDEMPTION  OF  SUBSIDIARY  AND  REPRESENTATIVE' 

MONEY' 

Gold  coins  and  standard  silver  dollars,  being  standard  coins  of  the 
United  States,  are  not  "redeemable." 

The  position  of  the  silver  dollar  in  our  system  is  anomalous  in  that 
it  is  regarded  in  law  as  a  standard  coin  and  hence  is  not  redeemable, 
while  in  essence  it  is  no  more  standard  than  fractional  silver  or  paper 
currency.  The  reason  for  this  is  historical.  We  have  not  yet  got 
entirely  over  to  the  single  gold  standard;  we  have  what  has  been 
aptly  called  a  limping  standard — the  silver  is  still  carried  along  as  a 
full  legal-tender  coin,  but  it  is  coined  only  on  government  account. 
There  is,  however,  a  system  of  indirect  redemption  which  in  practice 
has  thus  far  proved  quite  as  efifective  as  would  a  specific  redemption 
in  gold.  In  all  payments  to  itself  the  Treasury  receives  silver  on  an 
equality  with  gold,  and  in  all  payment  from  itself  to  others  it  pro- 
vides gold  if  that  metal  is  desired;  but  in  no  case  does  it  force  silver 
upon  an  unwilling  person.  By  the  Currency  Act  of  1900  it  is  provided 
that  silver  shall  be  maintained  at  a  parity  with  gold,  and  that  it  shall 
be  the  duty  of  the  Secretary  of  the  Treasury  to  maintain  such  parity. 
In  case  the  above  method  of  indirect  redemption  should  not  prove 
efficacious,  the  Secretary  would  be  obliged  to  resort  to  more  direct 
means. 

Subsidiary  coins  and  minor  coins  may  be  presented,  in  sums  or 
multiples  of  $20,  to  the  Treasurer  of  the  United  States  or  to  an  assist- 
ant treasurer  for  redemption  or  exchange  into  lawful  money. 

•  Bank  notes  are  discussed  in  Part  II,  selections  Nos.  125-^9. 

'Adapted  from  Circular  No.  52  of  the  United  States  Treasury  Department, 
1910. 


28o  PRINCIPLES  OF  MONEY  AND  BANKING 

United  States  notes  are  redeemable  in  United  States  gold  coin  in 
any  amount  by  the  Treasurer  and  all  the  assistant  treasurers  of  the 
United  States. 

Treasury  notes  of  i8go  are  redeemable  in  United  States  gold  coin 
in  any  amount  by  the  Treasurer  and  all  the  assistant  treasurers  of  the 
United  States. 

Gold  certificates,  being  receipts  for  gold  coin,  are  redeemable  in 
such  coin  by  the  Treasurer  and  all  assistant  treasurers  of  the  United 
States. 

Silver  certificates  are  receipts  for  standard  silver  dollars  deposited, 
and  are  redeemable  in  such  dollars  only. 

"Coin^'  obligations  of  the  Government  are  redeemed  in  gold  coin 
when  gold  is  demanded  and  in  silver  when  silver  is  demanded. 

153.    LEGAL-TENDER  PROVISIONS* 

Gold  coin  is  legal  tender  at  its  nominal  or  face  value  for  all  debts, 
pubhc  and  private,  when  not  below  the  standard  weight  and  Hmit  of 
tolerance  prescribed  by  law;  and  when  below  such  standard  weight 
and  limit  of  tolerance  it  is  legal  tender  in  proportion  to  its  weight. 

Standard  silver  dollars  are  legal  tender  at  their  nominal  or  face 
value  in  payment  of  all  debts,  public  and  private,  without  regard  to 
the  amount,  except  where  otherwise  expressly  stipulated  in  the 
contract. 

Subsidiary  silver  is  legal  tender  for  amounts  not  exceeding  $10  in 
any  one  payment. 

Treasury  notes  of  the  act  of  July  14,  i8go,  are  legal  tender  for  all 
debts,  public  and  private,  except  where  otherwise  expressly  stipulated 
in  the  contract. 

United  States  notes  or  "greenbacks"  are  legal  tender  for  all  debts, 
pubUc  and  private,  except  duties  on  imports  and  interest  on  the 
pubHcdebt.  Upon  resumption  of  specie  payments,  January  i,  1S79, 
they  were  made  acceptable  in  payment  of  duties  on  imports  by 
treasury  order  and  have  been  freely  received  on  that  account  since 
that  date,  though  the  law  has  not  been  changed. 

Gold  certificates,  silver  certificates,  and  national  bank  notes  are  not 
legal  tender,  but  both  classes  of  certificates  are  receivable  for  all 
public  dues,  while  national  bank  notes  are  receivable  for  all  public 

I  Adapted  from  Circular  No.  52  of  the  United  States  Treasuty  Department, 
1910. 


UNITED  STATES  SYSTEM  AXD  REGULATION 


281 


clues  except  duties  on  imports,  and  may  be  paid  out  by  the  Govern- 
ment for  all  salaries  and  other  debts  and  demands  owing  bv  the 
United  States  to  individuals,  corporations,  and  associations  within 
the  United  States,  except  interest  on  the  public  debt  and  in  redemp- 
tion of  the  national  currency.  All  national  banks  are  required  by 
law  to  receive  the  notes  of  other  national  banks  at  par. 

The  minor  coins  of  nickel  and  copper  are  legal  tender  to  the  extent 
of  25  cents. 

Foreign  coins  are  not  legal  tender.  Section  3584  of  the  Re\-ised 
Statutes  of  the  United  States  provides  that  no  foreign  coins  shall  be 
legal  tender  in  the  United  States.  They  were  legal  tender,  however, 
until  1854. 


154.    MONETARY  STOCK  OF  THE  UNITED  STATES* 


Kinds 

In  Treasury  and 
Mints 

In  Circulation 

Total  Stock 

(iold  coin  and  bullion 

Silver  dollars   

$1,279,112,110 

495,532,993 
22,040,989 

$611,544,681 

70,300,485 

159,965,698 

$1,890,656,791 
565-833,478 
182,006,687 

Subsidiary  silver 

Total  metallic 

1,796,686,092 

841,810,864 

2,638,496,956 

United  States  notes 

Treasury  notes  of  1890 

National  bank  notes 

8,835,369 

11,237 

35,491,862 

337,845,647 

2,427,763 

715,180,037 

346,681,016 

2,439,000 

750,671,899 

Total  notes 

44,338,468 

1.055,453,447 

1,099,791.915 

Aggregate  metallic  and  notes 

1,841,024,560 

1,897,264,311 

3,738,288,871 

Gold  certificates 

54,825,730 
12,248,023 

1,026,149,139 
478,601,977 

Silver  certificates 

Total  certificates 

67,073,753 

1,504,751,116 

Aggregate 

$3,402,015,427 

$3,738,288,871 

'  Annual  Report  of  the  Secretary  of  the  Treasury,  June  30,  1914,  pp.  308-9. 


282 


PRINCIPLKS  OK  MONEY  AND  RANKING 


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UNITED  STATES  SYSTExM  AND  REGULATION 


283 


156.    RATIO  OF  GOLD  TO  THE  TOTAL  STOCK  OF  MONEY 
AND  PER  CAPITA  CIRCULATION 


Dates 

Total  Stock  of 
Money 

Gold 

Percentage 
Gold 

Circulation 
per  Capita 

July  I 
July  I 
July  I 
July  I 
July  I 
July  I 
July  I 
July  I 
July  I 

1906 

1907 

1908 

1909 

1910 

1911 

1912 

1913 

1914 

$3,069,976,591 
3,115,728,887 
3,378,764,020 
3,406,328,354 
3,419.591,483 
3.555.958.977 
3,648,870,650 
3,720,070,016 
3,738,288,871 

$1,475,706,765 
1,466,389,101 
1,618,133,492 
1,642,041,999 
1,636,043,478 
1,753,196,722 
1,818,188,417 
1,870,761,835 
1,890,656,791 

48 
47 
47 
48 
47 
49 
49 
50 
50 

07 
06 
89 
20 

85 
30 
82 
28 
57 

S32 
32 
34 
34 
34 
34 
34 
34 
34 

32 
22 
72 
93 
33 
20 

34 
56 
35 

PART  II 
BANKING 


THE    VARIOUS    FORMS    AND    SERVICES 
OF  BANKING 

Introductory 

It  is  impossible  to  give  a  precise  definition  of  banking,  for  the 
reason  that  at  one  time  or  another  the  most  widely  differing  economic 
functions  or  services  have  been  designated  by  the  term.  Even  now 
it  includes  various  forms  of  financial  operations  based  on  substantially 
different  principles.  Numerous  writers,  however,  ignoring  the  popu- 
lar or  business  connotations  of  the  word,  have  attempted  to  limit  the 
discussion  of  banking  to  a  particular  t^-pe  of  operation,  namely,  the 
creation  of  notes  or  checks,  which  are  payable  on  demand,  and  which 
thereby  furnish  media  of  exchange  to  supplement  the  work  of  money 
proper  in  the  economic  process.  While  this  type  of  operation  is  un- 
questionably of  great  importance,  it  is  nevertheless  only  one  form  of 
banking,  and  to  treat  of  it  exclusively  is  to  narrow  the  field  to  an 
extent  that  affords  an  entirely  inadequate  understanding  of  the 
subject. 

It  is  the  purpose  of  the  readings  in  this  chapter,  first,  to  set 
forth  in  a  very  general  way  the  two  fundamental  types  of  banking 
operations — the  commercial  and  the  investment;  second,  to  enumer- 
ate the  various  forms  of  banking  institutions  that  have  been  developed 
in  the  carrying  out  of  these  fundamental  operations;  and  third,  to 
indicate  the  great  variety  of  services  that  are  in  fact  performed  by  the 
typical  commercial  banking  institution.  All  of  this  is  but  introduc- 
tory, however — designed  to  afford  a  sort  of  bird's-eye  view  of  the 
problem  of  banking  as  a  whole,  and  to  serve  as  a  point  of  departure 
for  the  detailed  study  to  follow. 

It  should  perhaps  be  added  here  that  banking  (using  the  term 
loosely)  is  one  of  the  oldest  of  institutions,  dating  back  to  a  remote 
antiquity.  Archaeologists  have  discovered,  for  instance,  that 
Assyria,  as  early  as  eight  centuries  before  the  Christian  era,  appears 
to  have  had  a  well-developed  system  of  bills  of  exchange,  promissory 
notes,  and  transfer  checks,  very  similar  to  those  of  our  own  day. 

3 


4  I'RINCIPLKS  or  MONEY  AND  BANKING 

Among  the  Greeks  and  Romans,  also,  most  of  the  operations  typical 
of  modern  bankhig  were  common.  Tlje  Middle  Ages,  however,  was 
a  period  of  stagnation  in  banking  affairs,  as  in  practically  every- 
thing else,  and  it  was  not  until  the  twelfth  century  that  modern  bank- 
ing history  began.  In  the  great  commercial  cities  of  Italy  and  Spain 
banking  developed  rapidly  between  the  twelfth  and  the  sixteenth 
centuries  and  appears  to  have  been  characterized  by  many  of  the 
problems  that  confront  us  today.  A  little  later  the  famous  bank  of 
Amsterdam,  though  of  a  simple  type,  was  largely  responsible  for  the 
commercial  pre-eminence  enjoyed  by  Holland  in  the  sixteenth  and 
seventeenth  centuries.  The  way  in  which  modern  banking  originated 
in  England  and  the  general  character  of  the  services  performed  are 
indicated  by  the  selection  on  "Goldsmith  Bankers  in  England." 

A  noteworthy  feature  of  banking  in  mediaeval  Europe  was  the 
rise,  along  with  commercial  institutions,  of  numerous  great  invest- 
ment bankers  or  financiers  who,  through  their  control  of  enormous 
capital  resources,  were  at  times  almost  able  to  sway  the  destinies  of 
nations.  The  Money  Trust  appears  to  have  been  quite  as  menacing 
then  as  now! 

I.    COMMERCIAL  VERSUS  INVESTMENT  BANKING' 
By  WILLIAM  A.  SCOTT 

In  order  to  draw  the  line  between  commercial  and  investment 
banks,  attention  must  be  riveted  upon  the  functions  which  each  per- 
forms in  the  economy  of  the  nation.  Commercial  banks  are  essential 
parts  of  the  machinery  by  which  goods  and  services  are  exchanged  in 
the  everyday  conduct  of  business.  Investment  banks  are  essential 
parts  of  the  machinery  by  which  the  savings  of  the  people  are  collected 
and  applied  to  the  production  and  transportation  of  goods  and  to  the 
service  of  such  public  bodies  as  the  federal,  state,  county,  township, 
and  municipal  governments. 

In  order  to  comprehend  the  precise  role  which  commercial  banks 
play  in  the  daily  exchange  of  goods  and  services,  we  must  note  certain 
features  of  our  credit  system.  To  sell  and  to  buy  on  time  are  very 
common  practices  in  modern  business.  The  manufacturer  frequently 
buys  raw  materials  and  agrees  to  pay  for  them  after  their  transforma- 

'  Adapted  from  "Investment  vs.  Commercial  Banking,"  Proceedings  of  the 
Second  Annual  Convention  of  the  Investment  Bankers  Association  of  America,  1913, 
pp.  76-80. 


VARIOUS  FORMS  AND  SERVICES  OF  BANKING  5 

tion  into  completed  products.  The  jobber  frequently  buys  goods  to 
be  paid  for  after  he  has  sold  them.  The  farmer  frequently  buys  seed, 
fertilizer,  cattle  for  fattening,  etc.,  to  be  paid  for  when  the  crop  has 
been  harvested  or  the  animals  sold  to  the  butcher. 

The  explanation  of  these  practices  is  to  be  found  in  the  growing 
separation  of  producers  and  consumers  and  in  the  lengthening  of  the 
period  of  production  caused  by  the  constant  extension  of  the  areas 
within  which  goods  are  marketed  and  of  the  use  of  machinery  in 
manufacturing.  Before  paying  for  them  consumers  like  to  receive 
the  goods  purchased,  and  middlemen  not  only  to  receive  them  but  to 
sell  them  again.  Manufacturers  find  advantage  in  being  able  to  pay 
for  labor  and  raw  products  after  they  have  been  transformed  into  com- 
pleted goods  and  sold  to  middlemen  or  consumers.  Hence  an  interval 
must  elapse  between  purchase  and  payment  measured  by  the  length 
of  time  required  for  the  transportation,  selling,  and  manufacturing 
processes. 

The  practice  of  buying  and  selling  on  time  results  in  making 
practically  every  business  man  both  a  debtor  and  a  creditor,  and 
renders  it  necessary  for  each  one  to  meet  his  debts  as  they  mature 
by  means  of  the  amounts  paid  by  others  in  settlement  of  their  obliga- 
tions to  him. 

It  is  rarely  possible,  however,  for  a  business  man  to  make  the 
maturities  of  the  debts  due  him  and  the  debts  due  by  himto  others 
exactly  correspond,  and  he  therefore  finds  himself  under  the  necessity 
of  transforming  into  means  of  payment  the  obligations  of  other  people 
due  in  the  future.  This  service  the  commercial  bank  performs  for 
him,  and  in  this  consists  its  unique  function  in  the  national  economy. 

The  means  by  which  this  service  is  performed  is  the  discount  of 
the  evidences  of  indebtedness  of  others  to  him,  or  of  his  own  personal 
notes,  and  this  in  the  vast  majority  of  cases  is  accomplished  in  this 
country  by  exchanging  these  credit  documents  for  balances  on  a 
checking  account,  which  balances  can  be  transferred  at  will  to  other 
people  at  home,  in  other  cities,  or  in  other  countries  or  transformed 
into  hand-to-hand  money. 

The  service  rendered  by  the  investment  bank  dilTers  greatly  from 
that  of  the  commercial.  It  acts  as  an  intermediary  between  the  per- 
son who  has  accumulated  capital  and  those  who  are  in  a  position  to 
invest  it  in  fixed  forms.  Two  processes  arc  here  involved:  the  accu- 
mulation of  the  savings  of  the  community  on  the  one  hand,  the  devel- 
opment of  natural  resources  and  the  construction  and  management  of 


6  PRINCIPLES  OF  MONEY  AND  BANKING 

manufacturing  and  transportation  agencies  on  the  other.  The  trans- 
fer of  capital  to  pubHc  bodies,  such  as  central  governments,  states, 
municipalities,  and  other  political  divisions,  for  unproductive  con- 
sumption is  a  process  also  carried  on  by  investment  banks  similar 
to  the  other  in  its  nature,  but  having  peculiarities  which  place  it  in 
a  class  by  itself. 

It  is  the  business  of  the  investment  banking  institutions  of  a 
country  to  see  that  this  work  of  directing  the  savings  of  the  country 
into  its  various  enterprises  is  economically  and  efficiently  done.  It 
is  their  business  to  stimulate  saving  and  to  provide  facilities  by  which 
every  person  who  saves  can  readily  put  his  accumulated  funds  to 
productive  use.  It  is  their  business  to  search  out  opportunities  for 
investment,  to  see  to  it  that  the  natural  and  human  resources  of  the 
nation  are  used  to  the  best  possible  advantage  in  the  promotion  of 
its  economic  interests.  This  is  a  great  work,  as  important  and  essen- 
tial to  the  well-being  of  the  nation  as  that  which  commercial  banks 
or  institutions  of  any  other  kind  perform. 

2.    A  CLASSIFICATION  OF  BANKS  AND  TYPES  OF  BANKING 

OPERATIONS 

Banks  are  commonly  classified  either  according  to  the  type  of 
business  in  which  they  speciahze,  or  according  to  the  legal  authority 
under  which  they  conduct  their  business.  Under  the  first  classifica- 
tion we  find  the  following:  commercial  banks,  investment  banks  or 
bond  houses,  savings  institutions,  and  trust  companies.  However, 
there  is  often  a  far  from  complete  specialization  in  the  work  per- 
formed by  these  various  institutions;  indeed,  "commercial"  banks 
and  trust  companies  as  a  general  rule  now  perform  nearly  every  kind 
of  banking  operation. 

Under  the  second  classification  we  have:  national  and  state  banks 
and  private  banks — the  classification  indicating  the  source  of,  or  the 
absence  of,  specific  authority  to  conduct  a  banking  business.  The 
term  "state  bank,"  however,  has  numerous  connotations.  Most 
commonly  the  term  is  used  in  connection  with  state  institutions  which 
engage  in  commercial  operations.  From  this  standpoint — the  char- 
acter of  business  carried  on — savings  banks  and  trust  companies  can- 
not be  called  state  banks,  even  though  incorporated  under  state  law. 
Again,  private  unincorporated  banks  have  also  been  classified  as  state 
banks  where  they  are  subject  to  regulation  by  the  state.  For  our 
present  purpose,  however,  the  distinguishing  feature  is  the  chartering 


VARIOUS  FORMS  AND  SERVICES  OF  BANKING  7 

by  state  governments.  Trust  companies,  savings  banks,  bond  houses 
where  incorporated,  and  commercial  institutions  are  all  state  banks 
in  this  classification. 

Private  banks  are  of  various  kinds:  (i)  small  concerns  which 
engage  in  a  general  banking  business  (largely  savings),  without  any 
specific  grant  of  authority;  they  may  or  may  not  be  under  the  super- 
vision of  the  state  banking  department;  (2)  various  co-operative 
creditor  loaning  associations;  (3)  unincorporated  investment  banks, 
or  bond  houses. 

But  while  banks  may  be  classified  into  several  different  kinds  of 
institutions,  and  while,  from  the  standpoint  of  services  performed, 
they  offer  a  wide  variety  of  advantages  in  the  way  of  affording  a 
place  for  the  safe-keeping  of  money,  transferring  funds  at  small 
expense  for  the  benefit  of  customers,  providing  a  convenient  and 
uniform  system  of  currency,  etc.,  there  are  nevertheless  but  two 
fundamental  types  of  banking  operations.  In  the  last  analysis  all 
banking  may  be  classified  as  either  commercial  or  investment 
business. 

3.    THE  VARIOUS  SERVICES  OF  BANKS' 
By  JAMES  W.  GILBART 

Banks  are  useful  as  places  of  security  for  the  deposit  of  money. 
The  circumstance  which  gave  rise  to  the  business  of  banking  in  this 
country  was  a  desire  on  the  part  of  the  merchants  in  London  to 
obtain  a  place  where  they  might  lodge  their  money  in  security. 
Everyone  who  has  had  the  care  of  large  sums  of  money  knows  the 
anxiety  which  attends  their  custody.  A  person  in  this  case  must 
either  take  care  of  his  money  himself  or  trust  it  to  his  servants.  If 
he  takes  care  of  it  himself  he  will  often  be  put  to  inconvenience,  and 
will  have  to  deny  himself  holidays  and  comforts,  of  which  a  man  who 
is  possessed  of  much  money  would  not  like  to  be  deprived.  If  he 
entrusts  it  to  others,  he  must  depend  upon  their  honesty  and  ability. 
Besides,  in  both  these  cases  the  money  is  lodged  under  the  owner's 
own  roof  and  is  subject  to  thieves,  to  fire,  and  to  other  contingencies, 
against  which  it  is  not  always  easy  to  guard.  .All  these  evils  are 
obviated  by  means  of  banking. 

The  bankers  allow  interest  for  money  placed  in  lliL-ir  hands  on 
deposit.    By  means  of  banking  the  various  small  sums  of  money 

■  Adapted  from  The  History,  Principles,  and  Practice  of  Banking,  i.Sj;. 
Michie's  revision  (1882),  pp.  213-22.    (G.  Bell  &  Sons.) 


8  PRINCII'IJ;.S  OK  MONEY  AND  HANKINO 

which  would  have  remained  unproductive  in  the  hands  of  individuals 
are  collected  into  large  amounts  in  the  hands  of  the  bankers,  who 
employ  it  in  granting  facilities  to  trade  and  commerce.  Thus  banking 
increases  the  productive  capital  of  the  nation. 

Another  advantage  conferred  upon  society  by  bankers  is  that 
they  make  advances  to  persons  who  want  to  borrow  money.  These 
advances  are  made  by  discounting  bills,  upon  personal  security,  upon 
the  joint  security  of  the  borrower  and  two  or  three  of  his  friends,  and 
sometimes  upon  mortgage.  Persons  engaged  in  trade  and  commerce 
arc  thus  enabled  to  augment  their  capital,  and  consequently  their 
wealth.     The  increase  of  money  in  circulation  stimulates  production. 

Another  benefit  derived  from  bankers  is  that  they  transmit  money 
from  one  part  of  the  country  to  another.  There  is  scarcely  a  person 
in  business  who  has  not  occasion  sometimes  to  send  money  to  a  dis- 
tant town.  This  can  be  most  conveniently  done  by  paying  the  money 
into  a  bank,  which  in  turn  arranges  with  a  correspondent  bank  in  or 
near  the  distant  town  to  pay  the  designated  party  the  amount  speci- 
fied. Periodical  settlements  between  the  two  banks  make  such  trans- 
actions comparatively  inexpensive.  At  the  same  time  there  is  not 
the  least  risk  of  loss. 

Wherever  a  bank  is  established,  the  public  is  able  to  obtain  that 
denomination  of  currency  which  is  best  adapted  for  carrying  on  the 
commercial  operations  of  the  place.  In  a  town  which  has  no  bank 
a  person  may  have  occasion  to  use  small  notes,  and  have  none  but 
large  ones;  and  at  other  times  he  may  have  need  of  large  notes  and 
not  be  able  to  obtain  them.  The  banks  issue  that  description  of  notes 
which  the  receivers  may  require,  and  are  always  ready  to  exchange 
them  for  others  of  a  different  denomination.  Banks,  too,  usually 
supply  their  customers  and  the  neighborhood  with  silver;  and  if,  on 
the  other  hand,  silver  should  be  too  abundant;  the  banks  will  receive 
it,  either  as  a  deposit  or  in  exchange  for  their  notes.  Hence,  where 
banks  are  established,  it  is  easy  to  obtain  change.  This  is  very  con- 
venient to  those  who  have  to  pay  large  sums  in  wages  or  who  pur- 
chase in  small  amounts  the  commodities  in  which  they  trade. 

By  means  of  banking  there  is  a  great  saving  of  time  in  making 
money  transactions.  How  much  longer  time  does  it  take  to  count 
out  a  sum  of  money  in  pounds,  shillings,  and  pence  than  it  does  to 
write  a  draft  ?  And  how  much  less  trouble  is  it  to  receive  a  draft  in 
payment  of  a  debt,  and  then  to  pay  it  into  the  banker's,  than  it  is  to 
receive  a  sum  of  money  in  currency  ?     What  inconveniences  would 


VARIOUS  FORMS  AND  SERVICES  OF  BANKING  9 

arise  from  the  necessity  of  weighing  sovereigns,  what  a  loss  of  time 
from  disputes  as  to  the  goodness  or  badness  of  particular  pieces  of 
money  I 

A  merchant  or  tradesman  who  keeps  a  banker  saves  the  trouble 
and  expense  of  presenting  promissory  notes  which  he  holds  or  drafts 
which  he  may  draw  against  customers.  He  may  turn  these  over  to 
his  banker  for  safe-keeping  and  collection  at  maturity.  He  pays  these 
into  the  hands  of  his  banker,  and  has  no  further  trouble.  He  has  now 
no  care  al^out  the  custody  of  his  bills,  no  anxiety  about  their  being 
stolen,  no  danger  of  forgetting  them  until  they  are  overdue,  and  thus 
exonerating  the  endorsers,  no  trouble  of  sending  to  a  distance  in  order 
to  demand  payment.  He  has  nothing  more  to  do  than  to  see  the 
amount  entered  to  his  credit  in  his  banker's  books.  If  a  bill  be  not 
paid  it  is  brought  back  to  him  on  the  day  after  it  falls  due,  properly 
noted.  The  banker's  clerk  and  the  notary's  clerk  are  witnesses  ready 
to  come  forward  to  prove  that  the  bill  has  been  duly  presented,  and 
the  notary's  ticket  attached  to  the  bUl  assigns  the  reasons  why  it  is 
not  paid. 

Another  advantage  of  keeping  a  banker  is  that  by  this  means  you 
have  a  continual  reference  as  to  your  respectability.  If  a  mercantile 
house  in  the  country  writes  to  its  agent  to  ascertain  tlie  respectability 
of  a  firm  in  London,  the  first  inquiry  is,  "  Who  is  the  banker  ?  "  And 
when  this  is  ascertained,  the  banker  is  applied  to  through  the  proper 
channel,  and  he  gives  his  testimony  as  to  the  respectability  of  his 
customer.  When  a  trader  gives  his  bill,  it  circulates  through  the 
hands  of  many  individuals  to  whom  he  is  personally  unknown;  but 
if  the  bill  is  made  payaljlc  at  a  banking-house,  it  bears  on  its  face  a 
reference  to  a  party  to  whom  the  accepter  is  known,  and  who  must 
have  some  knowledge  of  his  character  as  a  tradesman.  This  may  be 
an  immense  advantage  to  a  man  in  business  as  a  means  of  increasing 
his  credit;  and  credit.  Dr.  Franklin  says,  is  money. 

By  means  of  banking,  people  are  able  to  preserve  an  authentic 
record  of  their  annual  expenditures.  If  a  person  pays  in  to  his  banker 
all  the  money  he  receives  in  the  course  of  a  year,  and  makes  all  his 
payments  by  chccques,  then  by  looking  over  his  bank-book  at  the 
end  of  the  year  he  will  readily  see  the  total  amount  of  his  receipts  and 
the  various  items  of  his  ex]-)enditure.  This  is  very  useful  to  jiersons 
who  have  not  habits  of  business,  and  who  may  therefore  be  in  danger 
of  living  beyond  their  means.  A  bank  account  is  useful  also  in  case 
of  disputed  payments.    People  do  not  always  take  receipts  for  money 


lO  PRINCIPLES  OF  MONEY  AND  BANKING 

ihey  pay  to  their  tradesmen,  and  when  they  do  the  receipts  may  be 
lost  or  mislaid.  In  case  of  death,  or  omission  to  enter  the  amount 
in  the  creditor's  books,  the  money  may  be  demanded  again.  Should 
the  payment  have  been  made  in  bank  notes  or  sovereigns,  the  payer 
can  offer  no  legal  proof  of  having  settled  the  account;  but  if  the 
account  was  discharged  by  a  checque  on  a  banker,  the  checque  can 
be  produced  and  the  payment  proved  by  the  officers  of  the  bank, 
who  can  be  subpoenaed  for  that  purpose. 

By  keeping  a  banker  people  have  a  ready  channel  of  obtaining 
much  information  that  will  be  useful  to  them  in  the  way  of  their 
business.  They  will  know  the  way  in  which  bankers  keep  their 
accounts;  they  will  learn  many  of  the  laws  and  customs  relating  to 
bills  of  exchange.  By  asking  the  banker,  or  any  of  the  clerks,  they 
may  know  which  is  the  readiest  way  of  remitting  any  money  they 
have  to  send  to  the  country  or  to  the  Continent.  If  they  have  to 
buy  or  sell  stock  in  the  public  funds,  the  banker  can  give  them  the 
name  of  a  respectable  broker  who  can  manage  the  business;  or  should 
they  be  about  to  travel,  and  wish  to  know  the  best  way  of  receiving 
money  abroad,  or  be  appointed  executors  to  a  will,  and  have  to  settle 
some  money  matters,  the  banker  will  in  these,  and  many  other  cases, 
be  able  to  give  them  the  necessary  information. 

Banking  also  exercises  a  powerful  influence  upon  the  morals  of 
society.  It  tends  to  produce  honesty  and  punctuality  in  pecuniary 
engagements.  Bankers,  for  their  own  interest,  always  have  a  rigid 
regard  to  the  moral  character  of  the  party  with  whom  they  deal;  they 
inquire  whether  he  be  honest  or  tricky,  industrious  or  idle,  prudent 
or  speculative,  thrifty  or  prodigal,  and  they  will  more  readily  make 
advances  to  a  man  of  moderate  property  and  good  morals  than  to 
a  man  of  large  property  but  of  inferior  reputation.  Thus  the  estab- 
lishment of  a  bank  in  any  place  inmiediately  advances  the  pecuniary 
value  of  good  moral  character. 

4.    THE  GOLDSMITH  BANKERS  IN  ENGLAND' 

The  development  of  banking  in  England  was  a  mere  outgrowth  of 
the  business  of  the  goldsmith,  and  was  entirely  unaccompanied  by 
legislation  of  any  sort.  The  date  at  which  the  English  goldsmiths 
extended  their  operations  from  mere  trading  in  money  and  the  precious 
metals  to  a  regular  system  of  private  banking  can  be  approximately 

'  Adapted  from  Palgrave,  Dictionary  of  Political  Economy,  II,  227.  (London: 
Macmillan  &  Co.,  1910.) 


VARIOUS  FORMS  AND  SERVICES  OF  BANKING  ii 

set  at  1645.  A  pamphlet  written  in  1676  entitled  The  Mystery  of  the 
Newfas/iioned  Goldsmiths  or  Bankers  Discovered  informs  us  that  the 
goldsmiths  had  extended  their  previous  business  to  lending  money 
and  to  most  of  the  operations  of  modern  banking,  their  largest 
advances  being  made  to  the  king  upon  the  security  of  the  taxes.  The 
goldsmiths  allowed  interest  to  those  who  placed  money  with  them, 
and  the  receipts  which  they  gave  for  these  deposits  passed  from  hand 
to  hand  as  currency  in  much  the  same  manner  as  Bank  of  England 
notes  do  now.  That  this  business  soon  grew  considerably  is  evident 
from  the  testimony  of  Sir  Dudley  North  in  1680,  who,  on  returning 
from  abroad  after  many  years,  was  greatly  astonished  at  the  new 
practice  of  merchants  and  others  making  payments  by  drawing  bills 
on  bankers,  i.e.,  goldsmiths.  Hence  it  will  be  seen  that  the  gold- 
smiths, from  the  middle  of  the  seventeenth  century  onward,  assisted 
greatly  to  accustom  people  to  the  use  of  a  paper  currency. 

The  English  goldsmiths  of  the  seventeenth  century  in  issuing 
their  notes  acted  on  quite  a  different  principle  from  the  continental 
banks  of  that  date.  Most  of  the  continental  banks  professed  to  be 
merely  banks  of  deposit  of  coin  or  bullion,  and  to  hold  in  this  form 
the  full  value  of  the  bills  issued  against  these  deposits.  Our  gold- 
smiths and  the  Bank  of  England,  following  them,  purported  to  give 
in  their  bills  the  equivalent  of  what  they  had  received,  but  never 
pretended  to  take  the  deposit  for  any  other  purpose  than  that  of 
trading  with  it.  They  did  not  make  their  issues  square  exactly  with 
the  deposits  of  coin  and  bullion  entrusted  to  them,  '"but  coined  their 
own  credit  into  money."  In  other  words,  they  kept  a  compara- 
tively small  reserve  as  a  basis  for  extensive  deposit  accounts  in  pre- 
cisely the  same  manner  as  do  modern  commercial  banks.  This 
resulted  occasionally  in  difficulties.  The  first  recorded  run  on  the 
private  banks,  or  goldsmiths,  was  in  1667  after  the  disastrous  defeat 
suffered  by  the  English  fleet  at  the  hands  of  the  Dutch  at  Chatham. 
Then  the  stoppage  of  the  exchequer  in  1672  seriously  affected  their 
credit;  even  their  honesty  was  impugned;  and  in  course  of  lime 
it  was  found  that  paper  money  issued  on  the  security  of  a  small 
numljcr  of  individuals  could  not  circulate  profitably  in  competition 
with  that  of  a  powerful  joint-stock  corporation,  such  as  the  Bank  of 
England  became  in  spite  of  tlic  goldsmiths'  opposition. 


II 

THE  NATURE  AND  FUNCTIONS  OF  CREDIT 

Introduction 

An  analysis  of  the  principles  underlying  the  institution  of  credit 
is  fundamental  to  an  understanding  of  banking.  Indeed,  it  is  often 
stated  that  banks  are  credit  institutions,  that  banks  deal  in  credit,  or, 
in  a  word,  that  credit  and  banking  are  virtually  synonymous.  Again, 
it  is  often  stated  that  modern  industrial  society  is  a  credit  society, 
the  implication  being  that  credit  is  the  most  significant  factor  in  the 
present-day  organization  of  industry  and  commerce.  "Credit  is  the 
life-blood  of  commerce, "  "  Credit  is  the  heart  and  core  of  the  modern 
business  structure,"  are  other  common  statements  emphasizing  the 
tremendous  importance  of  this  phenomenon  that  is  called  credit. 

While  credit  may  be  readily  enough  defined,  an  understanding  of 
its  real  nature  and  significance  is  not  so  easUy  gained.  It  is  a  concept 
rather  than  a  visible  something;  or  perhaps  one  might  better  say  that 
it  is  incorporeal  rather  than  tangible.  It  is  therefore  an  elusive  phe- 
nomenon: "Now  you  see  it  and  now  you  don't  see  it."  At  any  rate, 
the  student  usually  has  at  first  no  little  difficulty  in  grasping  its  essen- 
tial nature.  In  particular,  credit  is  very  often  confused  with  the 
instruments  of  credit.  One  can  see  a  check  or  a  promissory  note,  and 
such  instruments  are  therefore  likely  to  appear  as  the  very  essence 
of  credit.  They  are,  however,  merely  evidences  of  the  antecedent 
credit  process  or  transaction  and  as  such  are  quite  irrelevant  to  credit 
itself.  It  should  be  observed  in  this  connection  that  in  the  treat- 
ment below  the  "Instruments  of  Commercial  Credit"  are  discussed 
in  a  separate  division  following  the  general  anahsis  of  credit  itself. 

The  subject  may  best  be  understood  through  a  study  of  the  reasons 
for  giving  and  receiving  credit  and  an  analysis  of  the  many  ways  in 
which  it  manifests  itself  in  our  everyday  business  activities.  It  will 
be  found  that,  whatever  the  particular  classification,  all  credit  opera- 
tions involve  at  bottom  a  common  principle;  though  there  has  been 
much  discussion  as  to  just  what  this  basis  of  credit  is — a  discussion, 
however,  which  appears  to  have  been  largely  due  to  a  loose  or  differ- 
ing use  of  words.     The  selection  below  on  "The  Basis  of  Credit" 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT  13 

seeks  to  set  forth  the  essential  requirements  for  credit  without 
attempting  to  reduce  the  matter  to  a  definite  word  or  statement. 
All  credit  operations  will  be  found  to  involve  an  analysis  more  or  less 
similar  to  the  one  there  given. 

But  while  the  granting  of  credit  always  involves  a  similar  sort 
of  analysis,  there  emerges,  in  the  use  of  the  funds  or  goods  borrowed 
on  credit,  a  sharp  differentiation,  one  that  is  fundamental  to  the  entire 
study  of  banking;  namely,  the  distinction  between  commercial  and 
investment  credit.  The  one  is  related  to  the  process  of  manufactur- 
ing and  marketing  consumers'  goods,  converting  raw  materials  into 
finished  products  in  the  hands  of  their  final  consumers;  the  other,  to 
the  creation  of  capital  goods,  machinery,  tools  and  equipment,  stores, 
factories,  railroads,  etc.  The  former  usually  gives  rise,  because  of 
the  very  nature  of  the  operations,  to  short-time  credit  instruments, 
notes,  drafts,  checks,  etc.;  the  latter  as  a  rule  to  long-time  credit 
instruments,  stocks,  bonds,  mortgages,  etc. 

In  practice,  however,  this  fundamental  difference  between  com- 
mercial and  investment  credit  has  not  always  been  clearly  perceived, 
and  some  of  the  most  serious  problems  of  finance  throughout  our 
history  have  arisen  from  the  frequent  failure  to  differentiate  in 
practice  between  investment  and  commercial  operations.  The  read- 
ings in  the  present  chapter  are  designed  to  set  forth  these  fundamental 
differences,  while  the  remainder  of  the  book  is  devoted  to  an  appli- 
cation of  the  principles  here  outlined.  Indeed,  banking  in  all  its 
forms,  so  far  as  principles,  as  distinguished  from  the  details  of  bank- 
ing practice,  are  concerned,  centers  primarily  around  the  use  of  either 
commercial  or  investment  credit. 

5.    A  DEFINITION  OF  CREDIT* 
By  J.  LAURENCE  LAUGHLIN 

With  the  division  of  laljor,  the  marvelous  inventions  of  machinery, 
the  prolongation  of  industrial  processes  (so  that  a  unit  of  product  can 
be  more  cheaply  sold  in  the  end),  the  growth  and  prodigious  increase 
of  all  forms  of  capital  have  naturally  led,  as  a  help  to  this  movement, 
to  the  evolution  by  society  of  the  practical  means  by  winch  men  of 
affairs,  when  preparing  for  tlic  future,  are  enabled  willi  llu-  least 
waste  of  efficiency  to  obtain  control  of  property  and  capital  in  pro- 
ductive efforts.     As  apart  of  this  evolution,  as  a  practical  means  to  an 

■  Adapted  from  Principles  of  Money,  pp.  72-76.  (Charles  Scribner's,  Sons,  1903.) 


14  PRINCIPLES  OF  MONEY  AND  BANKING 

end  involving  futurity,  credit  has  come  into  existence.  In  its  simplest 
terms  it  is  a  transfer  of  commodities  involving  the  return  of  an 
equivalent  at  a  future  time. 

Whenever  the  time  element  is  eliminated  from  a  transaction,  it 
will  be  seen  at  once  that  credit  does  not  enter  into  it.  A  transfer  of 
goods  for  which  an  equivalent  is  rendered  on  the  spot  would  never 
be  thought  of  as  a  credit  operation.  In  fact,  buying  and  selling  for 
an  immediate  consideration  (or  "cash")  is  generally  understood  to 
be  the  very  opposite  of  credit.  By  general  agreement  usage  would 
never  allow  an  obligation  entered  into  for  the  future  delivery  of  per- 
sonal service  to  be  spoken  of  as  credit;  and  rightly.  A  contract  to 
work  ten  hours  a  day  for  the  coming  three  months  should  not  be 
regarded  as  a  credit  obligation.  We  may,  therefore,  agree  to  confine 
credit  operations  to  goods  or  property  of  a  transferable  kind.  And, 
in  the  conception  of  credit,  with  the  transfer  goes  the  right  to  make 
any  ordinary  use  of  the  goods;  not  merely  to  keep  possession,  but  to 
destroy  entirely — and  commonly  with  the  purpose  of  reproduction — 
if  that  is  the  best  means  of  increasing  product  and  getting  back  goods 
for  repayment.  The  specific  goods  borrowed  need  not  always  be 
returned  in  kind;  an  equivalent  will  sufl&ce;  not  the  same  wheat,  or 
wool,  or  gold  which  was  borrowed,  but  the  equivalent  of  them. 

Many  contracts  appear  as  results  of  credit  transactions.  For 
instance,  A  borrows  the  means  to  finish  the  building  of  his  house; 
he  obtains  certain  goods  which  he  inserts  into  his  structure,  and  gives 
a  promissory  note  to  B  for  its  repayment,  secured  by  a  pledge  of  his 
property  in  the  form  known  to  the  law  as  a  mortgage.  The  note  and 
the  mortgage  are  merely  the  legal  methods  adopted  to  make  repay- 
ment more  certain;  they  are  not  essential  in  the  credit  itself.  The 
real  importance  should  be  put  on  the  transfer  to  A  of  means  return- 
able to  B  in  the  future.  Legal  and  customary  forms  intended  to 
secure  repayment  have  created  different  devices  in  the  same  com- 
munity, while  the  prevailing  habits  of  different  countries  have  given 
rise  to  varying  methods  of  obtaining  the  same  result.  In  one  situa- 
tion, for  instance,  a  book  entry,  in  another  a  bill  of  exchange,  in 
another  a  promissory  note  is  found  most  suitable.  In  short,  the 
circumstances  of  the  loan,  the  opinions  and  convenience  of  the 
parties  to  the  contract,  and  the  like,  may  bring  into  use  a  great 
variety  of  legal  forms,  all  resulting  from  the  primary  transfer  of  goods. 
The  undue  insistence  upon  legal  forms  arising  out  of  credit  draws 
attention  away  from  the  economic  processes  essential  and  intrinsic  in 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT        15 

it  to  the  nonessential  and  external  forms  outside  of  it.  The  familiar 
case  of  a  bank  loan  illustrates  this  truth:  there  is  the  essential  element 
in  the  transfer  of  capital  to  the  borrower  on  an  obligation  to  return  an 
equivalent  value  at  a  fixed  future  time;  but  the  evidences  of  the  trans- 
action, whether  in  the  form  of  a  book  entry  as  a  deposit,  or  the  passing 
of  the  bank's  own  notes,  or  the  giving  of  a  cashier's  draft  for  the  sum, 
are  secondary  matters,  or  consequences,  arising  out  of  the  original 
credit  operation.  As  said  before,  the  latter  merely  form  the  machinery 
for  obtaining  greater  or  less  security  with  a  view  to  repayment. 

6.     THE  BASIS  OF  CREDIT 

There  has  been  a  long-continued  discussion  over  the  basis  of  credit 
operations,  that  is,  the  reasons  why  credit  is  extended  by  one  person 
to  another.  One  party  to  the  controversy  has  stoutly  insisted  that 
confidence  h  the  basis  of  all  grants  of  credit;  that  if  one  did  not  have 
confidence  that  a  borrower  would  repay  a  loan  he  would  never  think 
of  making  the  loan,  unless  perchance  for  personal  or  philanthropic 
reasons.  Others  have  held  that  property,  rather  than  confidence,  is 
the  basis  of  all  genuine  credit  transactions.  Without  attempting  to 
analyze  the  causes  for  this  apparent  difference  of  view,  a  tabular 
exhibit  of  the  points  usually  investigated  before  credit  is  extended  by 
up-to-date  business  concerns  will  show  that  while  confidence  must  exist 
before  a  loan  will  be  granted,  such  confidence  is  based  in  part  on  the 
borrower's  property  and  in  part  on  his  personal  characteristics. 

The  customary  matters  investigated  may  be  grouped  in  two 
general  classes  as  follows: 

Pertaining  to  Character  of  Borrower  Pertaining  to  Character  of  th;  Business 

a)  Record  for  honest  dealing  a)  Ratio  of  quick  assets  to  current 

b)  Personal  habits  liabilities 

1.  Church  aftiliations  b)  Amount  of   capital   invested   and 

2.  Gambling  and  drinking  proportion  owned 
tendencies  c)  Character  of  .slock  of  goods 

3.  Political  ambitions  d)  Rate  of  turnover  of  stock 

4.  Styleof  living;  wife's  social  e)  Location  of  business,  and  character 
ambitions  of  competition 

c)  Reputation  for  ability  f)  Insurance  carried 

1.  Common-sense  and 
shrewdness 

2.  Age  and  general  experience 

3.  Success  in  this  line  of  busi- 
ness 

4.  Success  in   other   lines  of 
business 


l6  PRINCIPLES  OF  MONEY  AND  BANKING 

It  will  be  apparent  that  these  points  are  not  entirely  unrelated. 
A  man  of  excellent  lousiness  al)ility,  for  instance,  would  have  his  busi- 
ness properly  organized,  and  on  the  other  hand,  if  it  were  found  that 
a  business  was  Doorly  equipped  and  managed,  it  would  be  certain 
that  the  man's  t)usiness  experience  or  business  capacity  was  strictly 
limited.  Investigation  of  these  two  kinds,  however,  usually  serves  to 
furnish  a  more  adequate  basis  for  a  sound  judgment  of  the  risks  in- 
volved. Perhaps  one  may  conclude  from  this  analysis  that  before 
deciding  to  extend  credit  one  should  at  any  rate  have  confidence  in 
two  points:  (i)  in  the  abihty  of  the  borrower  to  pay  as  promised; 
and  (2)  in  his  wilUngness  or  intention  to  pay.  One  is  a  matter  of 
property  and  business  ability;  the  other  a  question  of  honesty  and 
business  reliability. 

7.    THE  VARIOUS  KINDS  OF  CREDIT 

The  modern  world  has  been  called  a  credit  society.  The  Germans, 
for  instance,  classify  the  stages  in  the  evolution  of  industry  as  fol- 
lows: barter  economy;  money  economy;  credit  economy.  The 
mechanism  of  credit  would  therefore  appear  to  be  the  center  and 
core  of  modern  industrialism.  While  this  characterization  may  well 
be  pushed  too  far,  it  is  certainly  true  that  credit  today  is  found  in 
practically  every  variety  of  business  transaction  and  is  in  fact  the 
basis  for  the  great  mass  of  commercial  exchanges.  The  divisions  of 
credit  have  been  classified  as  follows:  Public  Credit;  Capital  Credit; 
Mercantile  Credit;  Individual  or  Personal  Credit;  and  Banking 
Credit. 

By  Public  Credit  is  meant  chiefly  the  borrowing  operations  of 
governments,  whether  national,  state,  or  local,  through  the  issue  of 
interest-bearing  securities.  The  government  promises  to  pay  interest 
on  a  bond  from  year  to  year  and  to  repay  the  principal  at  some  stated 
future  date.  The  purchaser  of  the  bond  accepts  the  government's 
promise  of  intention  to  pay  and  has  faith  in  its  ability  to  keep  that 
promise.  The  government  by  means  of  its  credit  is  therefore  able 
to  secure  funds  for  present  needs.  An  issue  of  paper  money  by  the 
government  is  another  example  of  a  credit  operation.  Even  without 
any  fund  for  redemption  purposes  an  issue  of  paper  money  will  not 
for  a  time  depreciate  to  worthlessness ;  a  promise  of  ultimate  redemp- 
tion will  give  it  some  value  so  long  as  faith  in  the  word  of  the  govern- 
ment is  not  entirely  shattered.    At  any  rate,  a  partial  reserve  in  coin. 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT  17 

as  in  Ihe  case  of  our  greenbacks  at  present,  will  maintain  the  value  of 
paper  currency.  To  the  extent  of  the  uncovered  issue  we  have  a 
pure  credit  currency. 

By  Capital  Credit,  or  Industrial  Credit,  to  employ  another  term, 
is  meant  the  credit  used  by  corporations  in  procuring  the  necessary 
capital  required  in  their  business  operations.  The  corporation  agrees 
to  return  to  the  purchasers  of  its  bonds  at  some  future  date  the 
equivalent  of  the  funds  borrowed,  with  interest.  The  bondholder 
thus  extends  funds  to  the  corporation  because  he  believes  the  credit 
of  the  corporation  is  good.  The  purchaser  of  stock,  also,  trusts  his 
funds  to  the  managers  of  a  corporation,  and  it  is  understood  that  he 
is  to  receive  dividends  in  the  future  (if  earned)  and  ultimately,  if  the 
business  is  liquidated,  a  return  of  his  share  of  the  capital.  There 
is  the  obvious  difference  between  a  holder  of  stock  and  of  bonds  that 
one  is  an  owner  and  the  other  a  creditor,  that  the  returns  to  the  one 
are  wholly  contingent,  and  to  the  other  defmite,  in  so  far  as  the  mort- 
gage is  adequate.  But  credit,  through  the  entrusting  of  one's  funds 
to  a  third  party,  is  an  essential  element  in  both. 

It  is  the  usual  practice  to  exclude  from  Capital  Cre<lit  investments 
made  by  individuals  in  a  business  partly  or  largely  their  own,  such  as 
a  partnership.  The  difference  between  this  sort  of  investor  and 
the  purchaser  of  securities,  says  Prendergast,  is  this:  "Where  a  few 
men  invest  their  funds  in  a  business,  those  funds  invariably  represent 
their  entire  available  means  of  wealth.  They  are  working  for  them- 
selves alone,  and  the  profits  of  the  business,  whatever  the\'  may  be, 
go  to  the  owners  alone.    These  owners  ....  have  placed  all  they 

possess  at  the  risk  of  the  business On  the  other  hand,  the 

general  investor,  who  is  seeking  merely  a  nominal  or  reasonable  inter- 
est upon  the  funds  invested,  is  careful  to  so  place  those  funds  that 
his  investments  will  be  very  well  distributed,"  with  a  consequent 
lessening  of  the  total  risk.  To  use  the  economic  terminology,  the  one 
is  primarily  a  risk-taker  and  after  profits,  while  the  other  is,  as  far  as 
possible,  a  risk-avoider  and  is  satisfied  with  interest  alone.  A  better 
distinction  between  the  two  types  of  investment,  however,  is  that 
credit,  so  far  as  fixed  capital  is  concerned,  is  almost  negligible  in  the 
case  of  the  general  investor,  while  with  the  purchaser  of  securities 
credit  is  the  very  basis  of  the  transaction. 

Mercantile  Credit  is  the  credit  used  by  producers,  wholesalers, 
commission  merchants,  retailers,  etc.,  in  connection  with  the  manu- 
facture and  sale  of  commodities,  that  is,  with  the  movement  of  goods 


i8  PkiN('irij;s  OF  money  and  ranking 

from  first  producer  to  ultimate  consumer.  For  instance,  a  manu- 
facturer who  buys  raw  materials  to  be  made  into  finished  com- 
modities may  agree  to  pay  the  producer  of  the  raw  materials  only  after 
he  has  sold  his  product.  He  has  thus  been  "  trusted  "  by  the  producer ; 
there  has  arisen  a  "  time  obligation,"  a  future  payment.  Or  the  manu- 
facturer may  at  once  pay  the  producer  with  cash,  procuring  the  cash 
by  a  loan  from  the  bank,  which  he  promises  to  repay  after  the  goods 
are  manufactured  and  sold.  In  this  case  he  has  used  his  credit  with 
the  bank  instead  of  with  the  producer  of  the  raw  materials;  but  it  is 
obvious  that  the  nature  of  the  operation  is  the  same.  A  wholesaler 
or  retailer  may  likewise  purchase  the  goods  he  wishes  to  sell,  on  time, 
or  on  funds  borrowed  from  a  bank,  as  the  case  may  be,  agreeing  to 
repay  the  loan  after  the  goods  are  sold. 

Mercantile  Credit  is  to  be  distinguished  from  Capital  or  In- 
dustrial Credit  by  the  character  of  the  business  which  employs  it 
and  the  nature  of  the  use  to  which  the  funds  are  put.  A  character- 
istic feature  of  Mercantile  Credit  is  that  it  usually  runs  for  a  short 
time,  whereas  Industrial  Credit  is  usually  extended  for  long  periods. 
Mercantile  Credit  is  represented  by  promissory  notes  and  bills  of 
exchange  rather  than  by  bonds  or  stock  certificates. 

Personal  or  Individual  Credit  obviously  takes  its  name  from  the 
fact  that  it  is  connected  with  individuals  rather  than  with  public  or 
private  corporations.  It  is  the  means  by  which  an  individual  may 
secure  goods  for  consumption  purposes  without  an  immediate  payment 
of  cash.  The  laborer  who  settles  his  bills  on  the  weekly  pay  day,  the 
salaried  man  who  pays  by  check  at  the  end  of  the  month,  and  the 
farmer  who  settles  his  account  at  the  village  store  when  he  sells  his 
crops  are  cases  in  point.  Personal  Credit  is  distinguished  from  other 
credit  in  part  by  the  character  of  the  security  furnished  by  the  bor- 
rower, and  in  part  by  the  use  that  is  made  of  the  things  borrowed. 
The  basis  of  the  security  is  an  indirect  one,  consisting  primarily,  not  of 
actual  property  in  hand,  but  of  a  recognized  earning  power  from  per- 
sonal or  professional  services.  The  things  borrowed  are  generally 
used  for  immediate  consumption  rather  than  for  further  production. 
Such  credit  is  therefore  often  called  "Consumption  Credit."  It  is 
also  sometimes  spoken  of  as  "Retail  Credit,"  because  it  is  used 
primarily  in  retail  transactions.  This,  however,  is  confusing,  because 
such  a  term  might  mean  the  credit  of  the  "retailer"  himself. 

Personal  Credit  is  usually  extended  without  requiring  a  deposit 
of  collateral  as  security  and  even  without  a  written  promise  to  pay  in 


THE  NATURE  AND  FUNCIIONS  OF  CREDIT        19 

the  future.  A  promise  is,  however,  implied,. and  the  entry  on  the 
books  of  a  retail  store  is  the  evidence  of  the  credit  transaction.  "Book 
Credit"  is  a  name  commonly  used  in  this  connection;  but  this  name 
describes  not  so  much  the  character  of  the  credit  operation  as  the 
manner  of  "evidencing"  the  credit  transaction.  The  credit  on  the 
books  is  an  evidence  that  a  personal  credit  has  been  granted. 

The  fifth  form  of  credit  has  been  called  Banking  Credit.  As  is 
well  known,  banks  furnish  funds  to  borrowers  of  every  description; 
it  is  to  the  banks  that  one  in  need  of  credit  naturally  turns.  But  by 
Banking  Credit  is  not  meant  the  credit  extended  to  individuals,  cor- 
porations, merchants,  and  governments.  Such  forms  of  credit  fall 
within  the  classifications  given  above.  The  essence  of  Banking  Credit 
may  be  discovered  only  in  the  answer  to  the  question.  Where  do  the 
banks  procure  the  funds  which  they  loan  to  the  business  world? 
These  funds  are  procured  in  part  from  the  banks'  own  capital,  and 
in  part  from  the  funds  that  have  been  left  with  them  by  individual 
depositors;  but  in  the  main  it  is  through  the  use  of  their  own 
credit. 

A  bank  uses  its  own  credit  in  much  the  same  way  as  does  an  indi- 
vidual. A  man  who  is  responsible  morally,  who  has  a  reputation  for 
business  honesty  and  ability,  and  who  has  security  in  the  form  of 
commodities  that  enter  into  trade,  is  able  to  borrow  on  his  credit. 
He  uses  his  good  name  and  his  property  as  means  of  securing  funds 
for  immediate  use.  A  bank,  likewise,  if  it  possesses  the  confidence 
of  the  community,  is  able  to  extend  its  business  by  means  of  its  credit. 
The  simplest  use  of  its  credit  is  found  in  the  entrusting  of  funds  by 
depositors  with  the  bank — for  safe-keeping  or  use,  as  the  case  may  be. 
There  is  a  more  important  way,  however,  in  which  our  large  commer- 
cial banks  use  their  credit.  A  bank  with  Sioo,ooo  cash  on  hand  is 
able  by  means  of  its  credit  to  do  a  business  ecjual  to  five  or  six  times 
this  amount.  This  is  accomplished  through  borrowing  on  its  credit. 
Just  as  a  government  borrows  when  it  issues  paper  currency,  so  a 
bank  borrows  when  it  creates  obligations,  either  in  the  form  of  bank 
notes  or  deposit  accounts  against  which  checks  may  be  drawn.  The 
ordinary  commercial  bank  usually  owes  on  demand  several  times  the 
amount  of  its  cash.  A  bank  is  safe  in  thus  extending  its  obligations 
so  long  as  the  management  is  efllcient  and  the  resources  other  than 
cash  are  ample.  There  are  some  special  problems  involved  in  tlu' 
use  and  control  of  Bank  Credit,  but  in  essence  it  does  not  differ  from 
the  other  forms  of  credit  that  have  been  enumerated. 


20  PRINCIPLES  OF  MONEY  AND  BANKING 

8.    COMMERCIAL  VERSUS  INVESTMENT  CREDIT 

Viewing  credit  apart  from  particular  groups  of  persons  or  organi- 
zations, such  as  governments,  corporations,  wholesalers  and  retailers, 
banks,  and  private  individuals,  two  distinct  types  of  credit  may  be 
distinguished,  namely,  commercial  and  investment  credit.  This  clas- 
sification is  of  the  foremost  importance  from  the  standpoint  of  eco- 
nomic analysis  and  a  clear  understanding  of  the  principles  underlying 
the  various  forms  of  banking  operations. 

Investment  credit  is  that  which  is  used  in  the  financing  and 
development  of  business  enterprises  such  as  railroads,  factories,  work- 
shops, stores,  farms,  and  mines.  The  funds  borrowed  are  invested 
in  fixed  or  durable  forms  of  capital  goods,  as  distinguished  from  con- 
sumptive goods.  In  consequence,  the  borrower  does  not  expect  to 
be  able  to  repay  the  loan  within  a  few  weeks  or  months;  rather,  he 
plans  to  pay  the  principal  of  the  loan  out  of  the  accumulated  earn- 
ings of  the  business  in  the  course  of  several  years.  The  lender, 
similarly,  regards  such  a  disposal  of  his  funds  as  permanent;  hence 
the  term  investment. 

Commercial  credit,  on  the  other  hand,  is  used  in  financing  the 
manufacture  and  marketing  of  goods,  and  it  has  to  do  only  with  con- 
sumptive goods.  It  is  only  another  name  for  the  mercantile  credit 
described  in  the  previous  selection,  viewed  from  another  angle — that 
of  the  use  to  which  the  funds  borrowed  are  put.  Unlike  the  borrower 
of  investment  funds,  the  borrower  here  wishes  to  use  his  funds  only 
temporarily.  A  concrete  case  will  serve  to  illustrate  the  difference: 
A  borrows,  let  us  say,  $10,000  and  purchases  a  stock  of  goods  with  the 
money.  Two  months  later  he  sells  these  goods  for  $11,000,  or  at  a 
profit  of  10  per  cent.  The  goods  purchased  thus  furnish  the  direct 
means  of  Hquidating  the  loan.  The  borrower  for  investment  purposes, 
on  the  other  hand,  invests  the  $10,000  in  alactory.  He  does  not  con- 
template selUng  the  factory  within  a  few  weeks  or  months.  On  the 
contrary,  he  expects  to  use  the  factory  for  many  years  in  the  manufac- 
ture of  commodities.  It  may  take  ten  years  or  more  before  the 
accumulated  profits  will  permit  the  repayment  of  the  principal  of  the 
loan.  The  latter  is  a  long-time  process,  requiring  years  for  fruition; 
the  former  a  short- time  operation,  carried  to  completion  in  a  few  weeks 
or  months.  It  is  by  means  of  the  former  that  industries  are  developed 
and  continued;  it  is  by  the  latter  that  the  manufacture  and  marketing 
of  goods  are  accomplished,  that  commodities  are  transferred  through 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT        21 

purchase  and  sale  from  the  original  producer  to  the  hands  of  the 
ultimate  consumer. 

9.    THE  IMPORTANCE  OF  INVESTMENT  CREDIT 

The  importance  of  investment  credit  has  often  been  underesti- 
mated by  writers  on  the  subject  of  credit.  Nevertheless  it  plays  quite 
as  important  a  role  in  the  world  of  business  as  does  commercial  credit. 
By  means  of  government  credit  the  individuals  who  purchase  bonds 
receive  interest  on  funds  that  might  otherwise  be  either  unemployed 
or  less  safely  or  remuneratively  invested,  while  the  government,  on 
its  part,  is  enabled  to  build  a  Panama  Canal,  wage  wars  of  self-defense 
or  conquest,  construct  public  roads  and  buildings,  street  railways, 
electric  lighting  plants,  etc.  In  so  far  as  a  government  'can  perform 
certain  services  for  society  more  effectively  than  can  private  business, 
there  is  clearly  a  direct  social  gain  arising  from  the  uses  of  this  form 
of  credit. 

By  means  of  capital  or  industrial  credit  the  surplus  funds  of 
individuals  are  turned  back  into  the  channels  of  productive  industry; 
they  are  transferred  from  non-productive  to  productive  employments, 
thereby  increasing  the  wealth  and  productive  power  of  society. 
These  private  funds  are  converted  into  railroads,  factories,  shops,  and 
farms  which  would  not  yet  have  come  into  existence  without  the  use 
of  investment  credit. 

An  idea  of  the  enormous  extent  of  investment  credit  may  be 
gained  from  the  statistics  of  the  bonds  and  stocks  listed  on  the  New 
York  Stock  Exchange,  The  principal  of  the  bonds  listed  on  the 
exchange  amounts  to  a  total  of  Si4,3 10,553,000,  classified  in  groups 
as  follows: 

Government  and  municipal,  including  foreign $3,357,379,849 

Railroad 8,213,374,750 

Public  utility  and  street  railway 1.475. 567. 59° 

Manufacturing,  industrial,  and  miscellaneous 1,264,232.950 

The  face  value  of  the  listed  stocks  amounts  to  $13,084,073,923. 

It  is  estimated  that  for  the  country  as  a  whole  the  bond  houses 
every  year  market  in  the  neighborhood  of  $2,000,000,000  of  bonds. 
The  significance  of  these  enormous  figures  may  be  realized  when  one 
considers  that  the  total  wealth  of  the  entire  nation  is  estimated  at 
about  $120,000,000,000. 


22  I'RIXCIPLKS  OF  iMONKY  AND  liA\KI.\(; 

lo.     11  IK  COMPLICATED  SYSTEM  OF  COMMERCIAL  CREDIT 

It  has  become  almost  a  trite  saying  that  credit  is  the  very  hfe- 
blood  of  commerce  and  that  without  its  wonderful  assistance  the 
enormous  business  of  the  modern  world  would  be  quite  impossible. 
It  is  a  commonplace,  also,  that  the  credit  structure  is  a  very  uncertain 
mechanism,  one  that  periodically  breaks  down,  involving  hundreds 
of  businesses  in  financial  ruin  and  indirectly  demoralizing  the  com- 
merce of  an  entire  country.  The  precise  manner,  however,  in  which 
this  credit  structure  is  built  up,  with  its  intricate  and  complicated 
interrelations,  is  often  not  clearly  understood.  It  is  the  purpose  of 
the  following  analysis  to  trace  these  intricate  relations  and  show  the 
complicated  interdependencies  in  the  fabric  of  commercial  credit. 

Commerce  relates  to  the  movement  of  goods  from  the  hands  of 
those  who  perform  the  first  operation  in  production  to  their  final 
resting-place  with  the  ultimate  consumers.  Commercial  credit  con- 
nects itself,  therefore,  with  the  various  purchases  and  sales  that  are 
made  in  the  extended  process  of  marketing  commodities.  The  nature 
and  place  of  credit  in  this  marketing  process  may  perhaps  best  be  made 
clear  by  assuming  first  a  society  that  does  business  on  a  cash  basis 
only. 

To  illustrate  the  process,  let  us  begin  with  some  raw  materials  in 
the  form  of  iron  ore  and  coal  which  are  to  be  manufactured  into  farm 
machinery  for  sale  to  farmers.  These  raw  materials  normally  pass 
through  the  hands  of  the  following  classes  of  business  men:  (i)  the 
manufacturer  of  machinery;  (2)  the  wholesale  dealer;  (3)  the  retail 
merchant,  from  whom  they  are  purchased  by  the  farmer.  In  the 
absence  of  credit  the  producer  of  raw  materials  would  have  to  possess 
enough  capital  to  defray  the  cost  of  producing  these  materials.  Let 
us  assume  he  sells  them  for  cash  to  the  manufacturer,  who  pays  for 
them  with  ready  money.  In  turn,  the  manufacturer,  after  converting 
the  materials  into  finished  machines,  sells  them  in  a  new  form  to  the 
wholesale  dealer,  who  pays  for  them  out  of  funds  accumulated  for  the 
purpose.  The  wholesaler  next  passes  them  on  to  the  retailer  for  cash, 
and  the  retailer  disposes  of  them  to  the  farmer  for  cash.  In  each  case 
cash  accumulated  and  in  hand  ready  for  payment  is  the  significant 
feature.  We  have  thus  far,  however,  but  half  completed  the  com- 
mercial circle. 

The  farmer  does  not  purchase  the  machinery  as  an  end  in  itself. 
With  it  he  produces  crops  for  sale.    He  sells  his  annual  produce  to  a 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT        23 

local  dealer  for  cash ;  the  local  dealer  sells  these  products  to  the  com- 
mission merchant  for  cash;  the  commission  merchant  passes  them  on 
for  cash  to  a  retail  store;  and  the  storekeeper  sells  them  for  cash  to 
his  customers,  who  happen  to  be,  let  us  assume,  the  laborers  in  the 
mines  of  iron  and  coal  who  were  the  original  producers  of  the  raw 
materials  that  went  to  the  making  of  farm  machinery.  Thus  we  have 
the  complete  round  of  production. 

In  the  foregoing  analysis  we  have  assumed  each  sale  to  be  for 
cash;  no  one  waits  for  his  payments,  and  all  keep  the  slate  clear  as 
they  go.  With  such  a  method  there  is  little  danger  of  a  general 
breakdown.  If  a  purchaser  has  not  the  cash  with  which  to  pay  for 
goods,  he  is  refused  the  sale.  Hence  the  seller  is  never  dependent  upon 
the  future  solvency  of  his  purchaser.  Sales  may  be  restricted  by  a 
slackening  of  the  industrial  process;  but  there  are  never  maturing 
obligations  to  meet  and  there  is  never  a  chain  of  failures,  each  due  to 
the  previous  one.  Let  us  now  introduce  credit  into  the  system  as 
outlined  above. 

It  is  evident  that  the  farmer  who  buys  the  farm  machinery  is  the 
ultimate  demander  of  the  raw  materials  purchased  by  the  manufac- 
turer. In  the  final  analysis  the  farmer's  cash  pays  for  the  labor  of  the 
workers  in  the  mines  of  iron  and  coal.  Or,  travehng  around  the  cir- 
cuit in  the  opposite  direction,  it  is  the  laborer's  cash  that  really  pays 
for  the  crops  that  have  been  produced  by  the  farm  machinery. 
Without  credit,  however,  it  is  impossible  for  the  precise  cash  paid  b}- 
the  farmer  to  the  retailer  to  be  used  by  the  latter  in  paying  the 
wholesaler,  and  so  on  up  to  the  producer  of  the  raw  materials. 
In  introducing  credit  into  this  system  it  will  be  necessary  to  assume 
for  the  moment  a  situation  that  does  not  represent  the  actual  stale 
of  affairs.     The  corrective  will  be  given  in  the  paragraph  following. 

Let  us  assume  that  the  producer  of  raw  materials  possesses  enough 
cash  to  produce  $10,000  worth  of  raw  materials,  paying  his  laborers 
in  advance.  Now  let  us  assume  that  he  sells  these  materials  to  the 
manufacturer  on  twelve  months'  time;  that  is,  he  agrees  to  wait  twelve 
months  for  his  pay.  The  manufacturer  in  the  course  of  three  months 
converts  these  raw  materials  into  finished  machinery  and  sells  the 
machines  on  nine  months'  time  to  the  wholesaler.  In  a  month  the 
wholesaler  disposes  of  the  machinery,  letting  the  retailer  have  eight 
months  in  which  to  pay.  In  another  month  the  retailer  sells  the 
machines  to  a  farmer,  agreeing  to  wait  seven  months  Four  months 
later  ihc  farmer  sells  his  crops  on  three  months'  time  to  a  local  dealer, 


24  I'RINCIPLES  OF  MONEY  AND  BANKING 

who  sells  them  in  a  month  to  a  commission  merchant  on  two  months' 
time,  the  commission  merchant  in  turn  selling  on  one  month's  time 
to  a  retail  store,  and  the  retailer  disposes  of  them  within  a  month 
to  the  laborers  who  work  in  the  mines,  for  cash  received  by  them  for 
producing  raw  materials.  Cash  would  thus  be  paid  to  the  retailer 
of  farm  produce  just  twelve  months  from  the  date  of  the  first  sale  of 
the  raw  materials;  and  if  this  cash  should  be  passed  on  promptly 
through  the  hands  of  the  commission  merchant,  local  dealer,  farmer, 
retailer,  wholesaler,  and  manufacturer  to  the  original  producer  it 
could  liquidate  all  the  obligations  as  per  schedule. 

In  actual  practice,  however,  twelve  months  would  be  a  long  time 
for  the  producer  to  wait  for  his  payment.  Similarly,  the  periods  of 
nine,  eight,  and  seven  months  would  be  too  long  for  the  others  to 
wait,  for  further  production  would  be  more  or  less  halted  meanwhile. 
In  practice,  therefore,  credit  extension  is  for  much  shorter  periods, 
usually  from  one  to  four  months,  whether  it  be  to  the  producer  of 
raw  materials,  the  manufacturer,  or  the  middleman.  How  is  this 
made  possible  ? 

The  manufacturer,  for  instance,  may  give  his  note  to  the  producer 
for  three  months  and  pay  as  soon  as  he  sells  to  the  wholesaler.  The 
question  now  is.  Where  does  the  wholesaler  get  the  funds  with  which 
to  pay  ?  Does  he  not  have  to  wait  until  the  retailer  has  disposed  of  the 
goods  ?  This  is  where  the  banks  come  to  the  assistance  of  commerce. 
The  wholesaler  sells  to  the  retailer  on  time,  but  instead  of  delaying 
his  payment  to  the  manufacturer,  he  procures  a  loan  from  his  bank, 
giving  as  security  therefor  either  his  own  note  or  the  notes  received 
from  the  retailer.'  With  this  loan  the  wholesaler  may  pay  the  manu- 
facturer at  once.  The  loan  from  the  bank  is  repaid  when  the  retailer 
settles  with  the  wholesaler.  Therefore  the  bank  instead  of  the  dealer 
undertakes  the  waiting. 

In  the  foregoing  illustration  it  was  the  wholesaler  who  procured  the 
loan  from  the  bank.  It  may,  m  fact,  be  any  one  or  several  in  the 
chain  of  buyers  and  sellers.  The  manufacturer,  for  instance,  instead 
of  asking  the  wholesaler  to  pay  cash  could  accept  a  promissory  note 
instead,  and  then  sell  this  note  to  a  bank  for  cash,  that  is,  have 

'  The  practice  in  this  country  has  commonly  been  for  the  wholesaler  to  sell 
on  open  account,  requiring  no  note,  the  retailer  paying  shortly  in  cash  obtained 
by  borrowing  on  his  own  note.  Both  wholesalers  and  retailers,  however,  have 
occasion  to  borrow  from  the  banks. 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT        25 

it  discounted.  Or  the  retailer  might  borrow  from  a  bank  and  pay 
cash  to  the  wholesaler.  Similarly,  on  the  other  side  of  the  circle,  the 
commission  merchant  may  pay  cash  to  the  local  dealer,  borrowing 
from  a  bank  for  the  purpose;  and  the  retailer  of  the  foodstulTs  may 
sell  to  his  customers  on  credit  and  borrow  from  a  bank  while  waiting 
for  his  returns.  It  is  quite  immaterial  which  party  procures  the 
assistance  of  the  banks,  though  in  practice  it  usually  becomes  the 
custom  for  only  certain  ones  in  the  chain  to  do  so  regularly. 

The  commercial  structure  which  we  have  thus  outlined  is  seen  to 
be  very  closely  interrelated;  and  it  is  because  of  this  interdependence 
of  factors  that  a  "credit  breakdown"  has  such  far-reaching  conse- 
quences. The  credit  circle  cannot  be  broken  at  any  point  without 
more  or  less  seriously  disrupting  the  entire  system.  Supix)se,  for 
instance,  that  a  long  drouth  or  heavy  rains  ruin  the  agricultural  pro- 
duce and  render  it  impossible  for  the  farmer  to  pay  the  retailer  as 
promised.  This  afifects  the  retailer's  ability  to  pay  the  wholesaler, 
and  in  turn  the  wholesaler's  ability  to  pay  the  manufacturer,  or  his 
bank,  and  so  on  around  the  entire  circle.  Or  suppose  a  strike  in  the 
manufacturing  establishment  should  prevent  the  manufacturer  from 
filling  his  selling  orders.  It  becomes  impossible  for  him  to  pay  the 
producer  on  time;  and  the  latter  in  turn  is  unable  to  meet  his  obliga- 
tions as  they  fall  due.  The  halting  of  the  manufacturing  process 
may  compel  the  producer  to  restrict  his  output  of  raw  materials,  and 
hence  discharge  laborers.  This  affects  the  sales  of  the  retailer  of  the 
farm  produce,  and  hence  his  ability  to  pay  the  commission  mer- 
chant, and  so  on  around  the  circle.  Obviously  numerous  other 
examples  of  this  sort  might  be  enumerated. 

Whenever  there  is  a  break  in  the  delicate  structure  at  any  point, 
there  is  always  an  attempt  to  stop  the  gap  by  calling  upon  the  banks 
for  assistance.  Whoever  finds  himself  unable  to  pay  on  time  rushes 
to  his  banker  for  a  loan.  Indeed,  if  there  is  but  a  well-grounded  fear 
that  difficulties  are  likely  to  come,  dealers  often  go  at  once  to  the 
banks  for  loans  in  anticipation  of  trouble  to  come.  Without  here 
going  into  an  analysis  of  the  responsiljility  thus  placed  ujxjn  tlie 
banking  institutions,  it  should  be  emphasized  that  the  success 
with  which  a  community  may  pass  through  a  period  of  disrupted 
credit  operations  depends  upon  the  ability  of  tlie  banks  to  expand 
their  own  credit  sufficiently  to  tide  the  commercial  world  over  tlie 
emergency. 


26  PRINCIPLES  OF  MONEY  AND  BANKING 

II.     IS  CREDIT  A  FORM  OF  CAPITAL?' 

By  J.  R.  Mcculloch 

It  is  in  the  effects  resulting  from  the  transference  of  capital  from 
those  who  are  willing  to  lend  to  those  who  are  desirous  to  borrow 
that  we  must  seek  for  the  advantages  derivable  from  credit.  All  the 
operations  supposed  to  be  carried  on  by  its  agency,  how  extensive  and 
complicated  soever  they  may  seem,  originate,  in  fact,  in  a  change  in 
the  actual  holders  or  employers  of  capital.  Nothing,  indeed,  is  more 
common  than  to  hear  it  stated  that  commodities  are  produced,  and 
the  most  extensive  operations  carried  on,  by  means  of  credit  or  con- 
fidence; but  this  is  an  obvious  mistake.  Wealth  cannot  be  produced, 
nor  can  any  sort  of  industrious  undertaking  be  entered  upon  or  com- 
pleted, without  the  aid  of  labor  and  capital;  and  all  that  credit  does, 
or  can  do,  is,  by  facilitating  the  transfer  of  capital  from  one  indi- 
vidual to  another,  to  bring  it  into  the  hands  of  those  who,  it  is  most 
probable,  will  employ  it  to  the  greatest  advantage.  A  few  remarks 
will  render  this  apparent. 

It  is  plain  that,  to  whatever  extent  the  power  of  the  borrower  of 
a  quantity  of  produce,  or  a  sum  of  money,  to  extend  this  business, 
may  be  increased,  that  of  the  lender  must  be  equally  diminished.  The 
same  proportion  of  capital  cannot  be  employed  by  two  individuals 
at  the  same  time.  If  A  transfers  his  capital  to  B,  he  necessarily,  by 
so  doing,  deprives  himself  of  a  power  or  capacity  of  production  which 
B  acquires.  It  is  most  probable,  indeed,  that  this  capital  will  be  more 
productively  employed  by  B  than  by  A;  for  the  fact  of  A  having  lent 
it  shows  that  he  either  had  no  means  of  employing  it  advantageously 
or  was  disinclined  to  take  the  trouble;  while  the  fact  of  B  having 
borrowed  it  shows  that  he  conceives  he  can  advantageously  employ 
it  or  that  he  can  invest  it  so  as  to  make  it  yield  an  interest  to  the 
lender  and  a  profit  for  himself.  It  is  obvious,  however,  that  except 
in  so  far  as  credit  may  thus  bring  capital  into  the  possession  of  those 
who,  it  may  be  fairly  presumed,  will  employ  it  most  beneficially,  it 
can  contribute  nothing  to  the  increase  of  wealth. 

The  most  common  method  of  making  a  loan  is  by  selling  com- 
modities on  credit,  or  on  condition  that  they  shall  be  paid  at  some 
future  period.  The  price  is  increased  proportionally  to  the  length  of 
credit  given;  and  if  any  doubt  be  entertained  with  respect  to  the 
punctuahty  or  solvency  of  the  buyer,  a  further  sum  is  added  to  the 

•Adapted  from  Principles  of  Political  Economy  (1843),  PP-  121-25. 


THE  NATURE  AND  FUNCTIONS  OF  CREDIT  27 

price  in  order  to  cover  the  risk  that  the  seller  or  lender  runs  of  not 
recovering  the  price,  or  of  not  recovering  it  at  the  stipulated  period. 
This  is  the  usual  method  of  transacting  business  where  capital  is 
abundant  and  confidence  general. 

When  produce  is  sold  in  the  way  now  described,  it  is  usual  for  the 
buyers  to  give  bills  to  the  sellers  for  the  price,  payable  at  the  expira- 
tion of  the  credit;  and  it  is  in  the  effects  growing  out  of  the  negotiation 
of  these  bills  that  much  of  that  magical  influence  that  has  sometimes 
been  ascribed  to  credit  is  believed  to  consist.  Suppose,  to  illustrate 
this,  that  a  paper-maker.  A,  sells  to  a  printer,  B,  a  quantity  of  paper, 
and  that  he  gets  his  bill  for  the  sum,  payable  at  twelve  months  after 
date:  B  could  not  have  entered  into  the  transaction  had  he  been 
obliged  to  pay  ready  money;  but  A,  notwithstanding  he  has  occasion 
for  the  money,  is  enabled,  by  the  facility  of  negotiating  or  discounting 
bills,  to  give  the  requisite  credit  without  disabling  himself  from  prose- 
cuting his  business.  In  a  case  like  this  bolh  parties  are  said  to  be 
supported  by  credit;  and  as  cases  of  this  sort  are  exceedingly  common, 
it  is  contended  that  half  the  business  of  the  country  is  really  carried 
on  by  its  means.  All,  however,  that  such  statements  really  amount 
to  is  that  a  large  proportion  of  those  engaged  in  industrial  under- 
takings do  not  employ  their  own  capital,  but  that  of  others.  In  the 
case  in  question,  the  printer  employs  the  capital  of  the  paper-maker, 
and  the  latter  employs  that  of  the  banker  or  broker  who  discounted 
the  bill.  This  person  had,  most  likely,  the  amount  in  spare  cash  lying 
beside  him,  which  he  might  not  well  know  what  use  to  make  of;  but 
the  individual  into  whose  hands  it  has  now  come  will  immediately 
apply  it  to  useful  purposes,  or  to  the  purchase  of  the  materials,  or  the 
payment  of  the  wages  of  the  workmen  employed  in  his  establishment. 
It  is  next  to  certain,  therefore,  that  the  transaction  will  be  advan- 
tageous. But  still  it  is  essential  to  bear  in  mind  that  it  will  be  so,  not 
because  credit  is  of  itself  a  means  of  production,  or  because  it  can 
give  birth  to  capital  not  already  in  existence,  but  because,  through 
its  agency,  capital  finds  its  way  into  those  channels  in  which  it  has  the 
best  chance  of  being  profitably  employed. 

The  following  extract  from  the  evidence  of  Mr.  Ricardo  before 
the  committee  appointed  by  the  House  of  Lords  in  18 19,  to  inciuire 
into  the  expediency  of  the  resumption  of  cash  payments  by  the  Bank 
of  England,  sets  the  principle  we  have  been  endeavoring  to  establish 
in  a  very  clear  point  of  view: 


28  PRINCIPLES  OF  M0NI:Y  AND  BANKING 

"Do  you  not  know,"  Mr.  Ricardo  was  asked,  "tlmt  when  there 
is  a  great  demand  for  manufactures,  the  very  credit  which  that  cir- 
cumstance creates  enables  the  manufacturer  to  make  a  more  extended 
use  of  his  capital  in  the  production  of  manufactures?"  To  this  Mr. 
Ricardo  answered,  "I  have  no  notion  of  credit  being  at  all  effectual 
in  the  production  of  commodities;  commodities  can  only  be  pro- 
duced by  labor,  machinery,  and  raw  materials;  and  if  these  are  to 
be  employed  in  one  place,  they  must  necessarily  be  withdrawn  from 
another.  Credit  is  the  means,  which  is  alternately  transferred  from 
one  to  another,  to  make  use  of  capital  actually  existing;  it  does  not 
create  capital;  it  determines  only  by  whom  that  capital  shall  be 
employed;  the  removal  of  capital  from  one  employment  to  another 
may  often  be  very  advantageous,  and  it  may  also  be  very  injurious." 

Mr.  Ricardo  was  then  asked,  "May  not  a  man  get  credit  from  a 
bank  on  the  securit)^  of  his  capital  which  is  profitably  employed, 
whether  invested  in  stock  or  land;  and  may  he  not,  by  means  of  that 
credit,  purchase  or  create  an  additional  quantity  of  machinery  and 
raw  materials,  and  pay  an  additional  number  of  labourers,  without 
dislodging  capital  from  any  existing  employment  in  the  country?" 
To  this  Mr.  Ricardo  answered,  "Impossible!  an  individual  can  pur- 
chase machinery,  etc.,  with  credit;  he  can  never  create  them.  If  he 
purchase,  it  is  always  of  someone  else;  and,  consequently,  he  dis- 
places some  other  from  the  employment  of  capital." 

12.    THE  MONETARY  FUNCTION  OF  COMMERCIAL  CREDIT' 
By  J.  LAURENCE  LAUGHLIN 

Credit  being  in  its  simplest  form  a  transfer  of  goods  involving  an 
obligation  to  return  an  equivalent  in  the  future,  we  find  in  practice, 
however,  that  credit  has  in  modern  society  developed  instruments  that 
are  akin  to  money.  Clearly  enough,  it  does  not  act  as  a  standard 
or  common  denominator.  Its  relation  to  the  subject  of  money  is 
to  be  found  in  the  fact  that  society  has  in  the  forms  of  credit  created 
a  medium  of  exchange.  Credit  is  the  natural  result  of  the  premium 
always  existing  in  business  transactions  to  evolve  a  means  of  avoid- 
ing the  risk  and  loss  attending  the  actual  transfer  of  the  valuable 
standard;  and  it  remains  in  use  because  transactions  involving  futu- 

^  Adapted  from  Principles  oj  Money,  pp.  82-85.  (Charles  Scribner's  Sons, 
1903) 


THE  NATURE  AND  FXJNCTIONS  OF  CREDIT  29 

rity  arc  thereby  rendered  possible  and  legitimate,  to  the  immense 
advantage  of  commerce  and  industry.  It  is  the  evolution  of  a 
refined  system  of  barter,  rendered  necessary  by  division  of  labor, 
the  interdependence  of  industries,  and  the  introduction  of  the 
time  element. 

The  reason  for  the  common  belief  that  credit  is  based  upon,  and 
limited  by,  money  is  evidently  to  be  found  in  the  fact  that  all  the 
evidences  of  credit  transactions  (such  as  notes,  bills,  checks,  book 
credits)  are  drawn  in  terms  of  money;  and  that  every  business  man 
assumes  that  his  checks,  or  deposits  account,  or  bills  payable  can  be 
liquidated  in  money.  If  this  were  not  so,  he  reasons,  what  would  be 
their  value  to  him  in  preparing  to  meet  his  own  obligations  ?  Para- 
doxical as  it  may  seem,  it  is  absolutely  true  that  the  mass  of  obliga- 
tions could  not  possibly  be,  and  were  never  really  intended  to  be, 
liquidated  in  actual  money.  The  fundamental  truth  is  that  the 
quantity  (and  value)  of  goods  vastly  overpasses  the  quantity  (and 
value)  of  money;  only  a  portion  of  the  wealth  of  any  community  is, 
or  ought  to  be,  invested  in  its  machinery  of  exchange.  Provided  that 
exchanges  go  on  efficiently,  the  less  of  the  country's  wealth  invested 
in  this  unproductive  form  the  better.  To  speak  as  if  a  country  were 
better  off  the  greater  the  amount  invested  in  its  money  machinery  is 
to  glorify  the  fact  of  its  backward  commercial  growth;  such  an 
attitude  would  imply  that  a  farmer  could  turn  the  soil  better  with  a 
plow  decorated  with  costly  precious  stones  when  one  worth  one  one- 
thousandth  as  much  would  do  the  work  quite  as  well.  Inasmuch 
as  all  the  population  of  a  walled  city  do  not  wish  to  pass  through 
its  gates  at  once,  a  few  gates  suflSce  at  any  one  time;  so  likewise 
not  all  of  the  mass  of  goods  are  seeking  exchange  at  the  same 
moment.  As  a  consequence,  the  amount  of  money  needed  for 
exchange  is,  of  course,  far  less  than  the  total  amount  of  goods. 
This  is  an  economic  commonplace. 

All  transactions  cannot  be  liquidated  at  once  in  actual  money; 
and,  if  it  were  possible,  that  is  not  a  process  which  would  most  eco- 
nomically satisfy  our  daily  wants.  The  best  machinery  of  exchange 
is  that  which  enables  our  own  product  to  be  most  easily  exchanged 
for  the  various  goods  which  we  desire;  and  money  is  but  one  of  the 
means  to  the  end.  Credit  is,  also,  an  important  instrument,  or 
medium,  of  exchange.  Certain  reserves  of  money  are  necessary  parts 
of  tlie  system,  to  provide  against  lack  of  confidence,  general  distrust. 


30  PRINCII'LIOS  OF  MONEY  AND  BANKING 

and  unreasoning  human  nature.  As  McLeod  says:  "Though  in  every 
system  of  credit  there  must  be  an  ultimate  reserve  of  specie,  yet  that 
ultimate  reserve  does  not  bear  a  constant,  fixed  ratio  to  the  quantity 
of  credit:  but  it  mainly  depends  on  the  organization  of  credit:  the 
more  highly  organized  the  system  of  credit  is,  the  less  is  the  requisite 
amount  of  the  ultimate  reserve  of  specie.  Any  amount  of  credit 
may  be  created  and  extinguished  without  any  relation  to  the  quantity 
of  money." 


m 

INSTRUMENTS  OF  COMMERCIAL  CREDIT 

Introduction 

Credit  instruments  probal)ly  originated  soon  after,  if  not  simul- 
taneously with,  the  development  of  credit  itself,  for  an  obligation 
entered  into  upon  a  credit  basis  would  appear  to  require  almost  as 
a  matter  of  necessity  some  evidence  of  the  transaction  involved. 
It  is  of  course  possible  that  credit  operations  may  have  at  one  time 
been  extensively  conducted  without  the  use  of  written  proof  thereof; 
but  there  appears  to  be  no  historical  evidence  that  such  informal 
credit  extension  was  ever  the  rule  rather  than  the  exception.  With- 
out doubt  there  were  always  many  "character"  loans,  however, 
where  one's  word  was  as  good  as  his  bond,  even  as  now  there  are 
between  friends  informal  loans  where  no  note  is  required.  But  in  all 
probability  some  form  of  note  or  bill  of  exchange  was  generally  used 
almost  from  the  very  beginning.  There  is  abundant  proof  that  these 
instruments  were  well  developed  among  the  Greeks  and  Romans  and 
even  among  the  Assyrians  and  Babylonians. 

At  the  present  time  a  great  part  of  credit  is  e\adenced  merely 
by  entries  in  account  books,  and  is  known  as  book  credit.  Such 
informal  credit  extension  is  quite  as  significant  as  any  from  one 
standpoint,  but  from  another  point  of  \iew  it  is  much  less  imj>ortant 
than  formal  credit.  Where  a  note  or  1)111  of  exchange  arises  from  a 
credit  operation,  we  have  at  hand  tangible  legal  instruments  that  may 
be  used  in  a  modified  way  as  media  of  exchange,  while  in  the  bank 
check  we  have  an  instrument  that  in  the  modern  business  world  has 
largely  superseded  the  use  of  money  itself  in  the  making  of  exchanges. 
Bonds  and  stocks  arising  from  investment  transactions  also  serve  to 
some  extent  in  lieu  of  money;  but  it  is  only  in  the  instruments  of  com- 
mercial credit  tliat  we  have  a  generally  acceptable  substitute  for 
money. 

The  adaptability  of  these  instruments  to  serve  as  media  of 
exchange  has  long  been  recognized,  and  there  has  been  graduall>- 
developed  a  definite  body  of  law  governing  their  use.  The  funda- 
mental principle  which  has  given  them  the  wide  circulation  they  now 


32  PRINCIPLKS  or  MONEY  AND  BANKING 

possess  is  known  as  negotiability,  whereby  one  of  these  instruments 
may  come  to  have  a  good  title  even  though  there  was  originally  a 
flaw  in  it;  that  is  to  say,  when  it  gets  into  the  hands  of  a  third  party 
it  may,  under  certain  conditions,  be  a  better  instrument  than  when 
in  the  possession  of  the  original  holder.  This  principle,  so  far  as  our 
own  legal  history  is  concerned,  was  developed  in  the  English  courts 
to  meet  the  needs  of  mediaeval  trade.  In  due  time  it  was  extended 
to  America,  where,  in  the  various  states,  it  developed  along  similar 
lines,  though  with  so  many  local  variations  that  the  bar  association 
eventually  undertook  the  securing  of  identical  legislation  on  the 
subject  in  all  the  states.  A  uniform  negotiable  instruments  law,  how- 
ever, has  only  recently  been  secured. 

13.    TYPES  OF  COMMERCIAL  CREDIT  INSTRUMENTS 

A  promissory  note  is  an  unconditional  written  promise  by  X 
(the  maker)  agreeing  to  pay,  either  on  demand  or  at  a  definite  future 
date,  a  sum  of  money  to  Y  (the  payee)  or  to  Y's  order  or  to  bearer. 
It  may  or  may  not  designate  the  place  at  which  payment  is  to  be  made. 
Promissory  notes  may  be  issued  by  institutions  and  governments 
as  well  as  by  individuals.  Bank  notes.  United  States  notes,  certifi- 
cates of  deposit,  etc.,  are  forms  of  the  promissory  note. 


Due- 


(■Y^ -jdi'^^      '^-"^--^y^.    -  ofter  date  for  value  received  the  undersigned  promise  to  pay  to  the  order  of 

^        "mE  National  City  Bank  of  Chicago 

C?v<rVr.<^  A^K.-vx-'i^ve^   <a-.-f  ^/ ^  ,'<^0< ~'         DOLLARS 

at  Its  Banking  House  In  Chicago  Illinois,  with  interest  AFTER  MATURITY  at  the  rate  of  seven  per  cent  per 
annum  until  paid  and  with  costs  of  collection  and  a  reasonable  attorney  fee  if  not  paid  at  maturity.  Presentment' 
and  demand  for  payment,  notice  of  non-payment,  protest  and  notice  of  protest  are  each  and  all  hereby  waived  by 
the  makers,  endorsers  and  guarantors  Jointly  and  severally.  Any  indebtedness  owing  from  said  bank  or  legal 
holder  hereof  to  the  undersigned  or  to  any  endorser  or  guarantor  may  be  appropriated  and  applied  by  said  bank 
or  legal  holder  on  this  note  at  any  time  either  before  or  after  maturity  of  this  note  and  wlUmit  demand  upon  or 
notice  to  any  one. 


Ah   iC^_c.'lf'''y'i^^^^*^  C{^t/Z- 


-^ 


To  indorse  a  note  the  payee  writes  his  name  across  the  back  of 
the  instrimient.  This  act  makes  the  payee,  like  the  maker,  responsi- 
ble for  the  payment  of  the  note.  Notes  may  also  be  indorsed  by  third 
parties,  thereby  adding  to  the  number  of  those  responsible  for  the 
payment  of  the  note.  Notes  which  show  only  one  person  responsible 
for  the  payment  are  called  single-name  paper.  Those  which  have  two 
or  more  signers  are  called  double-name  or  three-name  paper. 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  ^;^ 

A  bill  of  exchange  is  an  unconditional  written  order,  signed  by  X 
(the  person  giving  the  order — the  drawer),  ordering  Z  (the  drawee) 
to  pay,  either  on  demand  or  at  a  definite  future  date,  a  sum  of  money 
to  Y  (the  payee)  or  to  Y's  order  or  to  bearer.  The  drawee  ma>' 
indicate  his  willingness  to  honor  it  by  signing  his  name  to  the  word 
"accepted"  written  across  the  face  of  the  bill. 

Bills  of  exchange  are  of  two  kinds,  foreign  and  domestic,  or  inland. 
A  foreign  bill  is  legally  defined  as  one  the  drawer  and  drawee  of  which 
live  in  different  countries  or  different  states,  while  a  domestic  bill 
is  one  both  parties  to  which  live  within  the  same  state.  Business 
custom,  however,  warrants  our  using  the  term  domestic  bill  for  all 
bills  when  both  parties  live  in  the  United  States,  regardless  of  state 
lines. 

There  is  likely  to  be  some  confusion  as  to  when  to  use  the  term 
draft.  Draft  and  bill  of  exchange  are  often  used  interchangeably. 
For  instance,  we  speak  of  drafts  on  London  and  bills  of  exchange  on 
London,  and  we  say  New  York  exchange  and  drafts  on  New  York. 
In  the  business  world,  however,  there  is  a  growing  custom  of  using 
the  term  draft  when  speaking  of  domestic  transactions,  while  one 
more  frequently  hears  the  term  bill  of  exchange  in  connection  with 
foreign  transactions. 

Bills  of  exchange  may  be  classified  according  to  whether  or  not 
the  parties  to  the  order  are  bankers.  A  banker's  draft  is  an  order 
drawn  by  one  bank  and  payable  by  another.  It  is  not  necessary, 
however,  that  the  party  to  whom  it  is  payable  be  a  bank.  In  the 
case  of  individual  or  trade  bills  of  exchange  the  payee  may  be  the 
drawer  himself  as  well  as  a  third  party.  The  payee  may  also  be  a 
bank.  The  second  party,  the  drawee,  may  likewise  be  "a  bank,  in 
which  case  the  bill  of  exchange  is  in  the  form  of  the  familiar  check 
drawn  by  a  person  against  his  deposit  account  in  a  bank. 

Bills  may  be  classified  according  to  whether  or  not  they  arise 
out  of  actual  commercial  transactions.  Hence  we  have  bankers' 
or  finance  bills,  trade  or  commercial  bills,  and  accommodation  bills. 
Bankers'  bills  are  used  merely  as  a  means  of  making  payments  and 
transferring  balances  and  arc  secured  by  the  reputation  of  the  bank 
that  draws  them.  A  commercial  bill  arises  out  of  an  actual  .sale  of 
goods  and,  is  secured,  not  only  by  the  general  responsibility  of  the 
drawer,  but  also  by  the  goods  which  have  been  exchanged  for  the 
purpose  of  sale.  Accommodation  bills  are  bills  which  do  not  arise 
out  of  any  business  transaction  already  concluded,  though  there 
may  be  an  intention  to  purchase  goods  with  the  funds  procured. 


34 


PRINCII'LKS  OF  MONEY  ANI;  BANKING 


KlMiiMaaaiUaanmassa^ 


AN   ACCEPTED   TRADE   DRAFT 

■■"nimauuuwmuui'uwwWMMOfiMiini juuui»A«miiMBiM8u<M»iiui«p«jijuii«ii«irninni,ii)niiiiMiB  ji 


//^  v-/  OQO- 


^<sLc--x.-fcr<A^^  ^   acXXz^  A^/k^.^ 


('  A'fr/','y^r}/>'  (SA^c.v>^-e-£.o-g^ 


^rxjo-JL   .:ti s^-<^^-y<LaL-^.^^    r-^'i_ 


A  FOREIGN   BILL   OF   EXCHANGE 


0^ 


EXCHANGE  FOR 


M- 


(p^..  fTi. 


^xi^^t^k^^.^:^^  FI RST  OF  EXCHANGE 


.5  17- 


zf- 


■.^.  .^jgft. 


SNatiomal  BamkSNorth  America.Chicaso 


i^^^t.^-^ 


Ti» 


<r^-«-c^  ocriye. — 


CASHIER  S   CHECK 


-<lf  Pit,  ijg-.lwi  Wii-yn.    T-g:^!!!     <    .a^TTTTT 


=§i 


i^^l  TiiE]S;vnoj{.viiCmB.\NiiOFCniCAGO 


Q^  ^^f-^^Xfl^l^^  \ 


_^t3?*i3^^^r^^^ii^2i_ 


~ Doi.F^MiK 


I    -rf^ 


.^ 


:.ig 


INSTRUMENTS  01-  COMMERCIAL  CREDIT  .^S 

111  order  to  illuslrale  the  use  of  these  instruments,  suppose  that 
X  has  bought  a  bill  of  goods  from  Y.  X  may  pay  in  one  of  several 
ways:  (i)  He  may  "pay  casH,"  and  this  may  be  in  bank  notes, 
United  States  notes,  gold  certificates,  etc.  (2)  He  may  give  Y  a 
check  on  his  (X's)  bank.  (3)  He  may  draw  and  deliver  a  bill  of  ex- 
change on  Z  payable  to  Y  or  Y's  order.  In  such  a  case  Z  is  presum- 
ably a  debtor  to  X.     (4)  He  may  give  Y  a  promissory  note.    This 

PERSONAL   BANK   CHECK 


Chicago.Ill-^ I9l/     No*^^/ 


Pay  TO  THE  ORDER  OF 


TkFirslNational  Bank  of  En^lcwood  Mo^ 


?t^ 

/«g-y Dollars 


LADIES   DEPARTMENT. 


will  merely  defer  actual  payment.  (5)  He  may  "accept"  a  bill  of 
exchange  which  Y  has  drawn  upon  him.  This  also  merely  defers 
actual  payment.  (6)  He  may  transfer  to  Y  some  check  or  promis- 
sory note  or  bill  of  exchange  which  some  other  person  (say  V)  has 
drawn  to  X's  order  or  to  bearer.  (7)  He  may  buy  from  his  banker  a 
banker's  draft  drawn  (on  some  other  banker)  in  favor  of  Y.  (8) 
He  may  buy  from  his  banker  a  cashier's  check. 

14.    ORIGIN  AND  DEVELOPMENT  OF  MERCANTILE 
INSTRUMENTS* 

By  WILLIAM  GREEN  H.\LE 

The  law  governing  negotiable  instruments  had  its  inception  in  the 
customs  of  the  mercantile  world — indeed,  these  instruments  were 
born  of  the  necessities  and  needs  of  merchants.  Bills,  notes,  and 
checks  are  thus  freciuently  referred  to  as  commercial  jxiper,  or  mer- 
cantile sjiecialties,  and  the  law  pertaining  to  such  instruments  as  the 
Law  Merchant. 

'Adapted  from  Laxc  of  Negotiable  lustnimnils,  jip.  1-2.  (lUackstone  Insti- 
tute, iQts) 


36  I'RINCII'J.KS  OF  MONEY  AND  BANKIX(; 

There  is  much  douljt  as  to  the  exact  time  and  place  of  the  origin 
of  commercial  j)ai)cr.  This  much  seems  quite  certain:  that  bills  of 
exchange  were  used  to  some  extent  by  the  merchants  of  Italy  as  early 
as  the  thirteenth  century  and,  not  a  great  while  thereafter,  found 
their  way  into  England,  where  they  were  first  used  by  the  English 
merchants  in  their  dealings  with  the  merchants  on  the  continent  of 
Europe.  Thus  the  foreign  bill  of  exchange  was  the  first  mercantile 
specialty  to  become  known  to  the  English  law. 

The  inland  bill  of  exchange  and  promissory  note  followed  rapidly 
in  the  wake  of  the  foreign  bill  of  exchange.  And  by  the  first  of  the 
seventeenth  century  all  three  of  these  instruments  were  well  known 
to  the  merchants  of  England,  and  were  coming  to  be  made  the  sub- 
jects of  litigation.  It  was  about  this  time  also,  it  is  said,  that  the 
custom  of  making  such  instruments  payable  to  order  or  bearer,  and 
thus  negotiable  in  form,  took  its  rise.  Down  to  the  time  of  Lord 
Mansfield,  in  1756,  however,  the  rules  that  governed  in  the  contro- 
versies which  arose  over  bills  and  notes  were  in  a  more  or  less  chaotic 
condition.  He  it  was — since  termed  the  "father  of  the  Law  jVIer- 
chant" — ^who  voiced  and  molded  into  the  form  of  definite  rules  of 
law  the  numerous  customs  of  the  merchants  with  reference  to  such 
paper  and  made  the  Law  Merchant  a  real  part  and  parcel  of  the  great 
body  of  the  English  Law. 

15.    THE  DEVELOPMENT  OF  CREDIT  INSTRUMENTS  IN 
THE  UNITED  STATES' 

By  JOSEPH  J.  KLEIN 

The  use  of  commercial  drafts  played  a  very  important  role  in 
the  history  of  the  American  colonies.  The  draft  was  used  when  the 
drawer  had  a  balance  to  his  credit  with  some  merchant,  residing  either 
in  England  or  the  colonies.  There  is  no  evidence,  however,  to  show 
that  the  promissory  note  was  used  during  the  colonial  period.  Bank 
checks  appear  to  have  been  unknown  in  colonial  times,  and  there  is 
no  evidence  to  show  that  the  few  banks  of  the  time  did  any  discounting 
of  bills  of  exchange.  Checks  were  unknown  to  the  colonists  until  the 
time  of  the  Revolution. 

In  the  period  between  1789  and  the  Civil  War  we  find  the  develop- 
ment of  an  extensive  use  of  both  drafts  and  promissor}'  notes  in  mer- 

'  Adapted  from  an  unpublished  thesis  on  The  Development  of  Mercantile 
Inslrumcnls  of  Credit  in  the  United  States. 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  37 

cantile  transactions.  During  this  period  also  banking  became  well 
developed  and  differentiated  into  banks  of  discount  and  banks  of 
circulation.  The  use  of  the  check  became  quite  generally  known  in 
the  cities,  although  it  was  not  until  after  the  Civil  War  that  deposit 
currency  came  to  be  the  most  important  instrument  of  exchange 
that  we  possess. 

16.    THE  USE  OF  CHECKS  IN  THE  UNITED  STATES' 
By  DAVID  KINLEY 

I.  The  volume  of  business  that  can  be  done  by  credit  paper 
depends  on  several  circumstances.  Obviously,  in  the  first  place,  it 
depends  upon  the  banking  facilities  of  the  country.  If  the  banks 
are  widely  distributed,  if  they  are  willing  to  deal  in  transactions  small 
enough  to  be  within  the  reach  of  large  numbers  of  people,  many  more 
transactions  will  be  settled  through  them  than  would  otherwise  be 
the  case.  This  fact  undoubtedly  explains  in  large  measure  the 
development  of  what  may  be  called  the  "banking  habit"  among  the 
people  of  the  United  States.  Undoubtedly  our  people  pay  by  check 
much  more  commonly  and  much  more  largely  than  people  of  any  other 
country. 

In  the  next  place,  the  density  of  population  is,  of  course,  an 
important  factor  in  the  growth  of  credit  exchanges.  A  larger  volume 
of  business  is  settled  by  bank  paper  in  a  commercial  center  than  in 
an  agricultural  community,  even  though  the  proportion  of  total 
business  thus  settled  may  not  be  larger. 

Finally,  the  general  education  and  intelligence  of  the  mass  of  the 
people  is  an  important  factor.  Men  do  not  use  banks  unless  they  have 
confidence  in  them,  and  they  have  come  to  be  regarded  as  a  settled 
part  of  the  ordinary  commercial  mechanism  of  the  community. 

2.  It  is  very  clear  that  a  large  proportion  of  the  business  of  the 
country,  even  in  the  retail  trade,  is  done  by  means  of  credit  instru- 
ments. We  are  justified  in  concluding  that  50  or  60  per  cent  of  the 
retail  trade  of  the  country  is  settled  in  this  way.  Over  90  per  cent 
of  the  wholesale  trade  of  the  country  is  done  with  checks  and  oilier 
credit  documents.  We  may  therefore  safely  accept  an  average  of 
80  to  85  per  cent  as  the  probable  percentage  of  business  of  thi's  country 
transacted  by  check. 

'  Adapted  from  The  Use  of  Credit  Instruments  in  the  United  Stales. 
(National   Monetary   Commission,    1910.) 


3^ 


PRINCn'L]':S  Ol"  MONJOY  AND  BANKING 


3.  Such  evidence  as  there  is  seems  to  indicate  that  payment  by 
check  has  shown  an  increase  during  the  i)ast  few  years: 

a)  In  the  first  j)lace,  the  returns  of  our  reports  show  a  larger  per- 
centage in  retail  trade. 


DIAOKA 

A  OF  THE  PEBOENTAOE  OF  ODECKS  IH  EETAIL  DEPOSITS  BT  CLASSEH  OF  BKitZ::. 

0                        M                        no                        M                         M                        ^0                       fl9                        QO                       n 

„        .  1^^ 

Ua«»wltruTt 

_                  ^ 

U    1    d»*ln»b«Bk* 

'■■" 

TOI.   ... 

DIAGRAM  or  THT  PESCENTAOE  OF  C 
^0                 20               ?0                  ^3                i- 

HtCKS  IN  RETAIL  DEPOSITS                                                   1 
p                  ^^                 70                iO                9P                 1 

S   C«Qlt  1  Di» 

W     tern  D  v 

National  banks 

DUORAM  or  THE  PIEOENTAOE  OF  CHICKS  IN  WHOLESALE 
ij                      If                     I]                       'J)                      fC                        Hi 

DEPOSITS 

_ 

L„.=    «„d    .r„,,    com- 

S,ock„v,„<.b.„W..... 

_ 

1 

HtttuI  nrlDc*  taoki 


ft)  The  prosperity  of  the  farmers  in  the  Central  West  has  enabled 
many  to  carry  bank  accounts  who  fifteen  years  ago  could  not  carry 
balances. 

c)  The  third  evidence  is  found  in  the  growth  of  the  number  of 
small  banks,  especially  in  the  country  districts.  Since  national 
banks  have  been  permitted  to  establish  themselves  with  a  capital 
of  $25,000  their  number  has  increased  from  3,617  to  6,926. 

d)  The  appearance  of  a  considerable  portion  of  checks  in  the 
deposits  of  mutual  savings  banks  is  also,  to  some  degree,  significant. 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  39 

Of  course  the  credit  documents  rtx:ei\'e(l  in  the  deposits  of  these  banks 
may  be  to  a  considerable  extent  money  orders.  Nevertheless  their 
deposits  show  a  certain  use  of  credit  paper  by  the  patrons  of  the 
banks. 

We  cannot  e.xpect  any  social  movement  to  continue  steadih- 
in  one  direction  for  an  indefinite  time.  Such  evidence  as  inquiries 
of  this  character  furnish  seems  to  show  that  there  is  a  certain  ebb  and 
flow  in  the  proportion  of  checks  used  in  business  payments. 

The  volume  of  credit  transactions  very  likely  tends  to  increase  as 
population  and  business  grow.  It  does  not  increase  uniformly,  how- 
ever, but  by  periodic  movements.  That  is  to  say,  the  rate  of  increase 
of  credit  transactions,  as  compared  with  the  whole  volume  of  business, 
grows,  as  it  were,  by  jerks  and  at  a  decreasing  rate. 

One  point  needs  to  be  carefully  borne  in  mind:  However  great 
the  volume  of  credit  exchanges,  however  extensive  the  use  of  credit 
may  become  in  a  community,  they  can  never  fully  displace  sales  for 
direct  money  payment. 

4.  The  amount  of  money  released  by  our  credit  transactions  is 
not  equal  in  amount  to  the  volume  of  credit  instruments,  for  there 
must  always  be  enough  to  settle  the  uncanceled  balances  called  for 
in  money  from  day  to  day.  The  amount  of  money  displaced  is  the 
difference  between  the  amount  that  would  be  needed  in  a  purely 
money  regime  and  the  amount  needed  to  pay  the  uncanceled  balances 
of  the  credit  transactions.  It  is  important  to  note  that  an  increase 
in  the  volume  of  credit  transactions  does  not  necessarily  mean  that 
we  must  get  a  proportionate  increase  in  our  reserve  of  money.  Every 
refinement  of  the  credit  mechanism  makes  it  possible  to  do  a  larger 
volume  of  business  on  the  same  reserve. 

No  one  can  say,  therefore,  with  definiteness  what  is  the  amount  of 
money  released  if  75  or  80  per  cent  of  our  business  transactions  arc 
settled  by  means  of  credit  paper.  This  is  a  matter  in  which  the  long 
experience  of  practical  bankers  is  the  only  safe  guide,  because  the 
amount  in  question  is  changing  from  day  to  day  as  the  conditions 
change.  No  simple  rule  about  it  can  be  laid  down.  Certainly, 
however,  it  is  not  75  per  cent  of  the  money  which  would  be  necessary 
if  all  transactions  were  settled  with  money.  It  is  an  amount  varying 
from  one-third  to  one-fifth  of  uncanceled  credit  balances,  according 
to  the  perfection  of  the  banking  machinery,  the  state  of  credit, 
prosperity,  and  public  confidence. 


40  PRINCIPLES  OF  MONEY  AND  BANKING 

17.    THE  LAW  OF  NEGOTIABLE  INSTRUMENTS' 
By  D.  CURTIS  GANO 

Definition. — A  negotiable  instrument  may  be  defined  as  a  written 
instrument  or  evidence  of  the  debt  which  may  be  transferred  from 
one  person  to  another  by  indorsement  or  deHvery  so  that  the  legal 
title  becomes  vested  in  the  transferee. 

Principal  characteristic. — ^The  principal  characteristic  of  a  nego- 
tiable instrument,  and  that  which  makes  it  pass  freely  as  a  substitute 
for  money,  is  that  in  the  hands  of  a  third  party  who  purchases  it 
in  good  faith  and  for  value  before  it  is  due,  it  is  enforceable,  while 
the  original  holder,  perhaps,  could  not  enforce  it  for  the  reason  that 
the  party  who  made  the  instrument  has  a  good  defense  or  counter- 
claim. As  soon,  however,  as  an  innocent  purchaser  comes  into 
possession  of  it  for  value,  he  cannot  be  prevented  from  collecting 
because  of  any  defenses  existing  between  the  original  parties.  In 
other  contracts  the  purchaser  acquires  only  the  right  of  the  party 
from  whom  he  buys,  but  in  the  case  of  negotiable  paper  he  may  acquire 
a  better  title  than  the  original  holder. 

Essential  conditions. — The  question  arises  as  to  what  conditions 
are  essential  to  constitute  a  contract  a  negotiable  instrument.  In 
general  we  find  that  no  exact  form  need  be  followed,  although  custom 
has  prescribed  forms  that  are  very  generally  used,  but  it  is  required 
that  a  negotiable  instrument  must  be:  (i)  in  writing,  (2)  properly 
signed,  (3)  negotiable  in  form,  (4)  payable  in  money  only,  (5)  the 
amount  must  be  certain,  (6)  must  be  payable  absolutely,  (7)  to  a 
designated  payee,  (8)  at  a  time  that  is  certain.  A  few  words  of 
elaboration  on  each  of  these  points  is  necessary. 

1.  No  oral  contract  could  be  negotiable.  By  a  written  contract 
we  mean  one  in  either  writing  or  printing,  and  the  writing  may  be 
executed  with  any  substance,  as  ink  or  pencil.  The  whole  instru- 
ment must  be  written.  No  essential  part,  as  the  names  of  the  parties, 
the  amount,  or  the  date,  can  be  omitted  from  the  writing. 

2.  It  is  usual  that  the  signature  be  made  by  writing  the  name  of 
the  signer,  but  it  is  not  necessar}',  as  he  may  affix  his  mark  or  any 
other  character  intended  to  be  a  signature.  It  is  usual  to  place  the 
signature  at  the  close  of  the  instrument,  but  if  it  is  shown  that  it  is 
meant  for  a  signature,  it  may  be  placed  on  any  other  part. 

'Adapted  from  Gano's  Commercial  Law,  pp.  116-53.  (Copyright  1904, 
1913.     By  permission  of  American  Book  Co.,  publishers.) 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  41 

3.  The  instrument  must  be  payable  to  "Order"'  or  "Bearer." 
If  made  payable  to  a  particular  person  or  persons  only,  it  is  not  a 
negotiable  instrument,  and  falls  under  the  rules  governing  a  simple 
contract.  In  other  words,  the  intent  of  the  party  making  the  instru- 
ment to  execute  a  negotiable  paper  must  appear  by  some  express  words 
showing  such  a  purpose. 

4.  The  very  reason  it  must  be  payable  in  money  is  that  if  it  were 
payable  in  any  other  commodity  the  amount  could  not  be  defmite 
and  certain.  If  payable  in  a  given  number  of  bushels  of  wheat,  the 
person  taking  it  would  be  obliged  to  determine  the  value  of  wheat 
at  that  place;  the  value  at  another  place  might  be  materially  different. 
By  the  term  "money"  is  meant  the  legal  tender  of  the  country;  that 
is,  a  note  payable  in  Spanish  money  is  not  a  negotiable  instrument 
in  the  United  States. 

5.  The  sum  payable  is  considered  fijced  and  certain  if  it  is  a  given 
amount  with  interest,  or  payable  by  stated  installments  or  with 
exchange  (the  bank's  charges),  or  with  the  costs  of  collection  in  case 
payment  is  not  made  at  maturity. 

6.  There  must  be  no  uncertainty  as  to  the  person  to  whom  the 
money  is  to  be  paid.  The  instrument  must  be  made  payable  to  a 
certain  person,  or  his  order,  or  to  the  bearer.  It  need  not  name  the 
payee,  but  it  must  be  payable  to  a  person  or  persons  who  can  be  defi- 
nitely ascertained  at  the  time  of  payment.  If  payable  to  A  or  B, 
it  is  not  a  negotiable  instrument  under  the  law  merchant,  but  it  has 
been  so  rendered  by  statute  in  some  states. 

7.  If  the  instrument  is  so  drawn  that  any  condition  may  arise 
which  would  render  it  of  no  effect,  it  is  not  a  negotiable  paper.  Con- 
sequently, a  promise  to  pay  a  certain  sum  out  of  a  designated  fund 
is  not  negotiable,  and  this  is  the  case  even  though  the  fund  exists  at 
the  time  or  the  condition  that  would  nullify  the  contract  never  arises. 

8.  But  the  promise  is  not  made  conditional  by  designating  a 
place  of  payment  in  the  instrument.  Not  only  must  the  amount 
be  payable  absolutely,  but  the  time  of  payment  must  be  definite  and 
fLxed.  That  is,  the  date  of  payment  must  be  definitely  stated,  or  it 
must  be  on  or  before  a  certain  definite  date,  or  at  a  certain  time  after 
the  happening  of  an  event  that  is  sure  to  occur.  A  note  payal)le  a 
certain  number  of  days  after  the  death  of  a  person  is  negotiable, 
the  date  being  certain  because  the  time  is  sure  to  arrive.  But  the 
contingent  event  must  be  certain  to  occur  or  the  promise  will  not  be 
absolute. 


42  PRINCIPLFOS  OF  MONEY  AND  BANKING 

Negotiation. — By  negotiation  wc  mean  the  transfer  of  a  ncj^otiable 
instrument  from  one  person  to  another  in  such  a  way  that  the  trans- 
feree is  the  legal  holder  thereof  and  vested  with  all  of  the  rights  of 
the  original  holder. 

Indorsement. — Negotiable  paper  is  transferred  by  indorsement, 
that  is,  by  the  payee  signing  his  name  on  the  back  with  directions  as 
to  the  party  to  whom  payment  shall  be  made.  When  an  instrument 
is  made  payable  to  a  certain  person  or  bearer,  an  indorsement  is  not 
necessary  to  give  a  good  title  to  the  transferee,  delivery  being  sufficient, 
but  if  it  is  payable  to  a  certain  person  or  order,  the  indorsement  is 
necessary  to  give  title. 

Blank  and  full  indorsement. — For  the  purpose  of  transfer,  the 
indorsement  must  be  made  by  the  party  to  whom  the  instrument  is 
payable. 

Indorsement  may  be  made  in  full  or  in  blank.  In  the  former  case 
the  payee  writes  "  Pay  to  the  order  of  X  "  and  signs  his  name.  This  is 
also  called  a  special  indorsement.  To  indorse  in  blank  all  that  is 
necessary  is  for  the  payee  to  write  his  name.  This  is  equivalent  to 
writing  "Pay  to  bearer."  The  instrument  is  payable  to  anyone 
who  holds  it. 

Obligation  of  indorser  and  drawer. — The  obligation  of  an  indorser 
to  a  transferee,  like  that  of  the  drawer  of  a  bill,  is  that  the  indorser 
will  pay  the  instrument  provided  the  maker  does  not,  and  also  pro- 
vided it  is  duly  presented  for  payment  and  upon  refusal  is  duly 
protested  and  notice  of  protest  given  the  indorser.  In  domestic 
bills  and  notes  the  protest  may  be  omitted  and  instead  notice  of  non- 
payment may  be  given  the  indorser.  It  will  be  seen  that  the  contract 
of  the  maker  of  a  note  or  the  acceptor  of  a  bill  is  absolute.  Each  is 
liable  in  any  event,  but  the  contract  of  the  indorser  and  of  the  drawee 
of  a  bill  is  conditional  upon  the  failure  of  the  maker  or  acceptor  to 
pay  upon  proper  protest  and  notic6  to  him. 

Indorsement  without  recourse. — If  the  indorser  of  a  note  wishes 
to  avoid  any  personal  Habihty,  he  may  indorse  "without  recourse" 
and  sign  his  name.  By  the  indorsement  "without  recourse"  the 
indorser  expressly  stipulates  that  he  will  not  be  liable  if  the  maker 
does  not  pay,  but  he  is  held  to  impliedly  warrant  that  the  signatures 
of  the  maker  and  all  prior  indorsers  are  genuine,  that  is,  that  they 
are  not  forgeries.  The  intent  and  purpose  of  such  indorsement  is 
to  pass  title  to  the  instrument. 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  43 

Indorsement:  how  made. — The  indorsement  must  be  on  the  instru- 
ment itself  or  on  a  paper  attached  to  it.  The  indorsement  must  relate 
to  the  entire  instrument;  a  part  cannot  be  transferred  by  indorse- 
ment, or  a  part  to  one  party  and  the  remainder  to  another.  Any 
writing  intended  to  transfer  the  title  to  the  instrument  will  be  con- 
strued as  an  indorsement. 

Presentment  and  demand. — As  has  been  said,  to  fix  the  liabiHty 
of  the  drawer  or  indorscr,  the  first  step  is  presentment  to  the  drawee 
or  maker  and  demand.  Bills  of  exchange  payable  a  certain  time 
after  sight  are  presented  for  acceptance;  notes,  checks,  and  bills 
payable  on  demand  or  sight  are  presented  for  payment.  Present- 
ment consists  in  exhibiting  the  instrument  to  the  payer  or  handing 
it  to  him,  while  demand  is  a  request  to  either  accept  or  pay  it  as  the 
case  may  be.  If  the  paper  is  payable  at  a  bank  the  mere  fact  that 
at  the  time  of  maturity  the  paper  is  at  the  bank  at  which  it  is  payable 
is  sufficient  presentment  and  demand,  provided  the  bank  has  knowl- 
edge of  the  fact.  Presentment  and  demand  must  always  be  made  at 
the  place  designated  in  the  instrument. 

In  case  there  is  no  designated  place  of  payment  it  is  said  that  the 
paper  is  payable  generally.  This  means  that  it  is  payable  at  the 
place  of  business  or  residence  of  the  maker  of  the  note  or  acceptor 
of  the  draft,  and  when  he  has  a  known  place  of  business  that  should 
have  preference  over  his  residence.  If  the  maker  or  acceptor  has 
neither  a  known  residence  nor  a  place  of  business,  the  holder  need 
only  be  present  with  the  paper  and  ready  to  receive  payment  at  the 
place  where  the  contract  was  made. 

Time. — Presentment  for  payment  must  be  made  on  the  day  on 
which  the  instrument  falls  due,  unless  some  "inevitable  accident'' 
or  other  legal  obstacle  prevents  such  presentment.  The  fact  that 
both  the  holder  and  indorser  know  that  the  note  will  not  be  paid  when 
due  and  that  the  maker  is  dead  and  the  estate  insolvent  docs  not 
relieve  the  holder  from  his  obligation  to  make  presentment  and  give 
notice  of  dishonor. 

Days  of  grace. — Drafts,  bills  of  exchange,  and  promissory  notes 
formerly  had  days  of  grace,  that  is,  three  days  were  added  to  the  time 
stated  in  which  the  instrument  should  become  due.  The  purpose 
of  this  v/as  to  give  the  payer  in  the  early  days  of  slow  transportation 
an  opportunity  to  arrange  for  payment.  A  note  at  thirty  days  drawn 
June  10  would  not  be  payable  until  July  13;  but  days  of  grace  have 


44  PRI.XCirLKS  OF  MONEY  AND  HANKIXG 

been  abolished  by  statute  in  most  of  the  states  and  an  instrument 
matures  on  the  date  fixed.  If  given  a  number  of  days  after  date, 
the  day  on  which  the  instrument  is  drawn  is  excluded;  thus,  a  note 
dated  January  lo,  payable  thirty  days  after  date,  is  due  February  9. 
If  the  date  of  maturity  is  Sunday  or  a  legal  holiday,  the  instrument 
is  payable  on  the  next  succeeding  business  day.  In  the  states  in 
which  days  of  grace  are  yet  allowed,  if  the  last  day  of  grace  is  a  holiday 
or  Sunday,  the  instrument  is  payable  on  the  preceding  day.  But 
when  the  time  is  reckoned  by  the  month,  as  it  is  when  the  instrument 
is  made  payable  one  or  more  months  after  date,  the  note  falls  due  on 
the  corresponding  date  of  the  month  in  which  it  is  due.  Thus  a 
note  dated  January  31,  1903,  due  one  month  after  date,  would  mature 
February  28,  1903,  where  no  grace  is  allowed,  and  if  dated  February 
28,  it  would  be  due  March  28.  Not  only  must  the  presentment 
for  payment  be  made  on  the  right  day,  but  it  must  be  made  at  a 
reasonable  time  on  that  day.  If  presented  at  a  bank,  it  must  be 
during  banking  hours.  In  other  cases  the  time  must  be  at  a  reasonable 
hour.  The  presentment  must  be  made  by  the  holder  or  his  duly 
authorized  agent,  upon  the  proper  person,  who  is  the  maker  or  the 
acceptor,  or,  if  he  is  dead,  his  personal  representative. 

Notice  of  dishonor. — After  the  payment  has  been  refused  and  the 
instrument  dishonored,  notice  of  such  dishonor  must  be  given  to  the 
drawer  of  a  bill  of  exchange  and  to  each  indorser  if  a  bill  or  note,  and 
any  drawer  or  indorser  to  whom  such  notice  is  not  given  is  discharged. 
This  notice  under  the  law  merchant  must  be  given  within  a  reasonable 
time,  but  by  the  negotiable-instrument  law  adopted  in  many  of  the 
states  it  is  expressly  stipulated  when  the  notice  is  to  be  given.  If  the 
parties  reside  in  the  same  place,  it  must  be  given  the  following  day. 
If  they  reside  in  different  places,  and  notice  is  sent  by  mail,  it  must  be 
deposited  in  the  post-office  so  as  to  go  the  day  following  the  dishonor; 
if  given  otherwise  than  through  the  mail,  it  must  be  done  in  time  to  be 
received  as  soon  as  the  mailed  notice  would  have  been.  The  notice 
may  be  given  by  the  holder  or  his  agent  or  by  any  party  who  may  have 
to  pay  the  debt  and  who  is  entitled  to  be  reimbursed. 

Notice  to  indorsers. — When  there  are  several  indorsers  the  last 
indorser  can  look  to  the  previous  one,  or  in  fact  to  anyone  who  has 
indorsed  before  him,  as  well  as  to  the  maker  or  acceptor.  There- 
fore it  often  happens  that  the  holder  upon  dishonor  of  the  instrument 
gives  notice  to  the  last  indorser,  to  whom  he  will  look  to  be  reim- 
bursed in  case  he  is  obliged  to  pay  the  instrument.     The  notice  of 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  45 

dishonor  may  be  either  oral  or  written,  and  can  be  either  delivered 
personally  or  sent  through  the  mail.  Some  cases  hold  that  the  postal 
service  cannot  be  used  when  the  parties  reside  in  the  same  town,  but 
by  statute  in  New  York  State  the  post-office  can  be  used  even  in 
that  case. 

Waiver. — Notice  may  be  waived,  and  frequently  the  indorser 
adds  "protest  waived,"  the  effect  of  this  being  to  waive  presentment 
and  notice  of  dishonor  as  well  as  formal  protest. 

Protest. — Protest  is  a  formal  declaration  in  writing  and  under  seal, 
of  an  officer  called  a  notary  public,  certifying  to  the  demand  and 
dishonor.  Protest  of  foreign  bills  of  exchange  is  necessar\-,  but  it  is 
not  required  in  the  case  of  notes,  checks,  and  inland  bills,  although  it 
is  often  employed  in  giving  notice  of  their  dishonor.  The  notary 
makes  the  presentment  and  demand,  and  upon  refusal  issues  a  cer- 
tificate, stating  that  presentment  and  demand  has  been  made  and 
judgment  refused,  and  further  that  notice  has  been  sent  to  the  maker 
and  all  indorscrs  of  the  note. 

Irregular  indorser. — Frequently  there  appears  on  the  back  of  a 
bill  or  note  the  name  of  a  person  who  is  not  a  party  to  it  and  to  whom 
it  was  never  indorsed.  Such  a  person  is  known  as  an  irregular  or 
anomalous  indorser.  The  object  of  such  an  indorsement  is  to  give 
additional  security  to  the  payee.  Different  states  hold  differently 
as  to  the  liability  of  such  a  party,  but  the  rule  commonly  followed 
seems  to  be  that  he  is  liable  as  an  ordinary  indorser.  Such  indorse- 
ments are  frequently  used  when  the  pa}ee  of  a  note  wishes  to  get 
it  discounted  at  a  bank,  that  is,  to  get  the  money  on  it.  The  bank 
requires  an  indorser,  and  the  payee  gets  a  friend  to  indorse  the  note. 
The  irregular  indorser  is  liable  to  the  bank  the  same  as  any  other 
indorser. 

The  holder  or  payee. — We  have  yet  to  consider  the  position  and 
rights  of  the  holder  or  payee  of  the  instrument.  Whether  he  be  the 
original  payee  or  an  indorser,  he  is  the  party  in  whose  hands  the  instru- 
ment rests  and  who  has  the  right  to  the  money  which  it  represents. 
We  have  already  learned  that  negotiable  instruments  have  a  distin- 
guishing characteristic  not  possessed  by  any  other  contract,  which  is 
that  when  they  have  passed  into  certain  parties'  hands  under  particu- 
lar conditions  they  are  valid  and  enforceable,  although  not  valid 
between  the  original  parlies  to  them.  The  rule  is  generally  said  to 
be  that  a  negotiable  instrument  in  the  hands  of  an  innocent  i)urchaser 
for  value  and  before  maturity  is  not  subject  to  any  of  the  defenses 


46  TRiNCirLJis  oi<  monj:y  and  banking 

that  might  be  interposed  to  it  between  the  original  parties,  but  this 
is  not  true  of  certain  absolute  defenses  which  affect  the  very  existence 
of  the  contract,  and  which  we  will  consider  later.  To  bring  the  instru- 
ment under  the  rule,  the  holder  must  be  an  innocent  purchaser  for 
value,  or,  as  it  is  often  expressed,  a  "bona  fide  holder  for  value"  or 
a  "holder  in  due  course."  The  term  "bona  fide  holder"  means  a 
holder  who  has  acquired  the  instrument  in  good  faith,  without 
knowledge  or  notice  of  any  defenses  or  defects  that  could  be  set  up 
against  any  prior  holder.  To  constitute  notice,  the  holder  must  have 
had  actual  knowledge  of  the  defect,  or  his  carelessness  must  have  been 
so  great  as  to  amount  to  "bad  faith." 

Defenses:  general  statement. — It  can  be  stated  as  a  general  propo- 
sition that  a  bona  fide  purchaser  before  maturity  and  for  value  takes 
title  free  from  all  defects  and  defenses,  or,  as  is  often  stated,  "free 
from  equities,"  except  such  as  affect  the  very  existence  of  the  instru- 
ment and  which  are  said  to  constitute  absolute  defenses.  The 
absolute  defenses  are  either  cases  in  which  no  valid  contract  ever 
existed  or  where  the  contract  is  declared  illegal  and  void  by  statute. 

No  delivery. — The  instrument  may  never  have  been  dehvered. 
It  is  considered  by  the  law  merchant  to  be  a  sufficient  delivery  to 
hold  the  maker  or  acceptor  if  it  is  handed  over  by  the  party  himself 
or  his  agent  either  with  or  without  authority,  or  if  it  gets  into  circula- 
tion through  the  negligence  of  the  maker.  The  question  is.  Did  the 
maker  deliver  the  instrument  or  was  his  actor  representation  respon- 
sible for  its  coming  into  the  hands  of  bona  fide  holders  ?  If  this  be  true, 
he  must  suffer,  although  it  was  not  his  intention  to  deliver  the  instru- 
ment. On  the  other  hand,  if  he  has  been  deprived  of  the  possession 
of  the  paper  by  fraud  or  theft,  he  cannot  be  compelled  to  pay  the 
amount  named  to  anyone,  as  in  this  case  the  instrument  was  never 
delivered  and  no  contract  existed.  If  in  the  making  of  the  instru- 
ment there  was  such  fraud  as  would  vitiate  a  contract,  then  no  contract 
exists,  and  the  maker  or  acceptor  cannot  be  held. 

Alteration  or  forgery. — Another  failure  of  contract  arises  when 
there  has  been  a  material  alteration  or  forgery,  for  in  these  instances 
the  minds  of  the  parties  have  not  met  in  the  contract.  To  alter  the 
terms  of  a  negotiable  instrument  without  authority  after  it  has  been 
signed  destroys  its  validity  even  in  the  hands  of  a  bona  fide  holder. 
Any  alteration  of  a  negotiable  instrument  which  changes  its  legal 
effect  is  a  material  alteration.  There  must  be  an  intent  to  make  the 
alteration,  and  it  must  be  made,  of  course,  without  the  consent  of 


INSTRUMENTS  OF  COMMERCIAL  CREDIT  47 

the  maker  or  acceptor  of  Ihc  instrument.  The  alteration  must  also 
be  made  by  a  party  to  the  instrument  or  one  in  lawful  possession  of 
it.  The  holfler  cannot  be  prejufliccd  or  injured  Ijy  the  act  of  a  stranger 
without  his  consent.  It  will  be  seen  from  the  foregoing  paragraphs 
that  when  a  signature  to  a  negotiable  instrument  is  forged  the  party 
whose  name  is  so  used  cannot  be  held. 

Want  of  capacity  to  contract.— The  contract  represented  by  the 
instrument  may  not  be  binding,  for  the  reason  that  the  party  or  parties 
did  not  have  the  capacity  to  contract;  as,  the  note  or  bill  of  an  infant 
or  lunatic.  Still,  if  a  valid  negotiable  instrument  comes  into  the  hands 
of  an  infant,  he  may,  if  of  full  mental  capacity,  transfer  it  to  another. 
The  mere  fact  that  a  contract  is  illegal  is  not  an  absolute  defense  to  a 
negotiable  instrument  in  the  hands  of  a  bona  fide  holder;  but  if  the 
contract  is  expressly  made  illegal  and  void  by  statute  an  absolute 
defense  is  created. 

Equities. — Other  defenses  than  those  described  as  absolute  are 
termed  "equities,"  and  are  valid  defenses  between  the  original  parties 
to  the  instruments,  but,  as  we  have  learned,  cannot  be  set  up  against 
bona  fide  holders.  Lack  of  consideration  is  a  good  defense  as  between 
the  original  parties,  but  not  as  against  a  bona  fide  holder  for  value. 
It  is  an  equity  and  not  an  absolute  defense.  The  fact  that  there  is 
an  absolute  defense  to  an  instrument  does  not  discharge  all  of  the 
parties  to  it  or  through  whose  hands  it  has  passed.  As  we  have  seen, 
such  defense  exonerates  the  maker  or  acceptor  of  a  negotiable  instru- 
ment, but  it  does  not  relieve  the  liability  of  the  indorser,  because  every 
person  who  negotiates  such  an  instrument  warrants  that  it  is  genuine, 
that  he  has  a  good  title  to  it,  and  that  all  prior  parties  have  capacity 
to  contract. 

18.    UNIFORM  NEGOTIABLE  INSTRUMENTS  LAW- 
By  WILLIAM  GREEN  HALE 

As  early  as  1890  a  movement  was  started  in  the  United  States 
to  bring  about  a  codification  of  the  law  merchant  in  the  several  slates 
with  a  special  view  to  securing  uniformity  in  the  dilTerent  jurisdictions. 
Following  the  lead  of  New  York,  commissioners  were  appointed  in 
other  states,  and  in  1S95  at  a  meeting  of  these  commissioners  a  Com- 
mittee on  Commercial  Law  was  instructed  to  have  prepared  a  codi- 
fication of  the  law  relating  to  bills  and  notes.     The  draft  was  forthwith 

'  Adapted  from  Law  of  Negotiable  Inslrinncnts,  pp.  9-1 1.  (IJIackstonc  Insti- 
tute, 1915-) 


48  PRiNCiPLi:s  or  money  and  ijankino 

prepared  and  submitted  to  the  conference  which  met  at  Saratoga  in 
August,  1896,  and,  with  some  amendments,  was  adopted,  and  is 
known  as  "The  Negotiable  Instruments  Law." 

Following  this,  steps  were  at  once  taken  to  secure  the  adoption  of 
the  bill,  thus  approved,  in  every  state  in  the  Union.  Again  the  state 
of  New  York  took  the  lead  by  passing  the  law  in  1897.  Since  then 
this  bill  has  become  a  law  in  forty-three  states,  Alaska,  the  District 
of  Columbia,  Hawaii,  and  the  Philippine  Islands;  in  a  few  instances, 
however,  with  more  or  less  important  modifications. 


IV 

PRINCIPLES   OF  "COMMERCIAL"    BANKING 

Introduction 

As  has  been  indicated  in  chapter  ii  above,  credit  in  its  various 
forms  has  come  to  play  so  important  a  role  in  the  modern  business 
world  that  present-day  economy  is  often  called  a  credit  economy. 
Within  this  great  and  complicated  credit  structure  banking  institu- 
tions occupy  a  position  of  unique  importance.  In  fact,  banks  are 
often  called  credit  institutions,  or  manufactories  of  credit,  because 
they  create  credit  instruments  that  are  used  as  currency  quite  as 
are  the  ordinary  media  of  exchange.  While,  as  we  shall  presently 
find,  this  is  a  more  or  less  narrow  view  of  the  relations  of  banking 
to  business  in  general,  it  is  none  the  less  true  that  banking  is  vitally 
related  to  the  entire  system  of  credit  that  has  been  developed. 

In  our  study  of  banking  we  are  to  consider  first  the  so-called  com- 
mercial bank.  It  is  necessary  to  say  so-called  commercial  bank,  or 
to  place  the  word  commercial  in  quotation  marks,  for  the  reason  that 
much  of  the  business  performed  by  the  banks  thus  designated  is 
really  of  an  investment  nature.  A  commercial  bank  is  generally 
defined  as  an  institution  which  exchanges  present  for  future  rights, 
that  is,  which  gives  an  individual  the  right  to  receive  funds  now,  or 
on  demand,  in  exchange  for  the  right  of  the  bank  to  receive  funds  from 
the  individual  at  some  future  date.  Under  this  definition  come  all 
our  national  banks  and  a  large  proportion  of  the  banks  chartered 
under  the  laws  of  various  states.  When  viewed  from  the  standpoint 
of  the  uses  to  which  the  funds  borrowed  are  put,  however,  these  banks 
which  thus  create  demand  obligations  are  by  no  means  strictly 
engaged  in  furthering  commercial  as  distinguished  from  investment 
business.  It  was  originally  intended  that  the  banks  which  created 
these  demand  obligations  in  exchange  for  short-lime  promises  to  pay 
would  as  a  matter  of  course,  and  virtually  of  necessity,  make  loans  for 
strictly  commercial  purposes,  for  unless  they  made  commercial  loans 
the  obligations  could  not  be  liriuidaled  within  a  short  time.  In 
practice,  however,  a  large  proportion  of  the  loans  made  by  "commer- 
cial" banks  are  for  investment  purposes,  and  out  of  this  practice 

49 


50  PRlNCll'LKS  Ol"  MONEY  AND  BANKING 

have  grown  some  of  our  most  serious  banking  problems.  It  is  highly 
important,  therefore,  at  the  very  beginning  of  the  study  of  banking 
to  bear  in  mind  that  "commercial"  banking  is  only  partly  commercial. 
The  full  significance  of  this  fact,  however,  will  not  be  apparent  until 
the  last  chapter  of  the  volume  is  reached.  Our  present  purpose  is 
merely  to  discuss  the  working  of  the  "commercial"  bank  as  a  type 
of  business  institution. 

An  understanding  of  the  practical  operations  and  the  functions 
of  a  bank  may  best  be  gained  by  approaching  the  subject  through 
the  medium  of  a  bank's  accounts  or  financial  statement.  The  prac- 
tical problems  based  on  the  statements  given  below  serve  to  elucidate 
the  everyday  business  transactions  of  a  bank  in  dealing  with  its 
customers. 

In  connection  with  the  economic  functions  that  are  performed 
by  banks  while  conducting  their  daily  operations,  selections  Nos. 
21  and  2  2  discuss  the  subject  from  different  points  of  view;  together 
they  serve  to  bring  out  clearly  the  essential  nature  of  the  commercial 
banking  business  as  the  economist  sees  it.  However,  from  the  point 
of  \new  of  the  business  man  who  is  interested  in  banks  from  the 
standpoint  of  the  use  he  may  make  of  them,  as  distinguished  from 
that  of  the  economist  who  is  interested  in  banking  from  the  stand- 
point of  its  relation  to  the  entire  economic  system,  "commercial" 
banks  are  primarily  loanifig  institutions  to  ^hich  he  may  look  for 
assistance  in  carrying  on  his  business.  Similarly,  from  the  stand- 
point of  the  banker  himself,  a  bank  is  an  institution  out  of  which 
profits  may  be  made,  and  its  practical  operations  are  conducted  with 
this  single  end  in  mind.  It  is  important  to  an  understanding  of  the 
entire  problem  of  banking  that  all  these  points  of  view  be  kept  in 
mind;  to  consider  the  subject  from  any  one  angle  alone  is  to  get  but 
a  very  inadequate  grasp  of  its  manifold  nature. 

From  every  point  of  view,  however,  the  granting  of  loans  is  the 
most  important  part  of  banking.  It  is  from  this  source  that  the 
banker  derives  his  chief  profits;  it  is  in  this  way  that  the  commercial 
bank  chiefly  serves  the  business  world  and  justifies  its  right  to  exist 
from  a  business  point  of  view,  and  it  depends  upon  the  character  of 
the  loans  made  whether  the  bank  will  be  sound  and  safe  and  whether 
it  properly  fulfils  its  functions  in  relation  to  the  economic  system  as 
a  whole.  It  is  in  connection  with  the  analysis  of  the  loan  items, 
moreover,  that  one  may  expect  to  find  the  investment  operations, 
already  noted,  that  are  so  commonly  conducted  in  the  name  of 


PRINCIPLES  OF  "COMMERCIAL"  BANKENG  51 

"commercial"  banking.  From  the  standpoint  of  the  bank  there  are 
two  classes  of  loans:  those  that  are  based  on  unsecurcfl  promissory 
notes  or  bills  of  exchange  and  those  that  are  secured  by  the  deposit 
of  collateral.  This  classifieation,  it  should  be  observed,  is  from  a 
purely  banking  viewpoint;  collateral  is  or  is  not  required,  depending 
upon  whether  the  banker  believes  that  the  borrower  can  reasonably 
be  expected  to  pay  the  loan  at  maturity.  It  docs  not  necessarily 
touch  the  question  in  which  we  are  interested  from  the  economic 
point  of  view;  namely,  the  uses  to  which  the  borrowed  funds  are  put 
and  the  consequent  relation  of  banking  to  commercial  and  investment 
development. 

A.     Analysis  of  Banking  Operations  and  Accounts 

19.    TYPICAL  BANK  STATEMENTS' 

The  National  City  Bank  of  New  York 
resources 

Loans  and  discounts SiQi.425,216.92 

U.S.  bonds  to  secure  circulation 2,562,750.00 

U.S.  bonds  to  secure  circulation  purchased  with  agree- 
ment to  resell 1,000,000. 00 

U.S.  and  other  bonds  loaned 2,985,500. 00 

U.S.  bonds  on  hand 173,318.94 

Premium  on  U.S.  bonds 4,615  •  00 

Bonds,  securities,  etc 41,879,191.09 

Capital  set  aside  for  South  American  branch 1,000.000. 00 

Stock  of  Federal  Reserve  Bank 1,000,000. 00 

Securities  purchased  with  agreement  to  resell 75,000.00 

Banking  house,  furniture,  and  fixtures 5,000,000. 00 

Due  from  banks  and  bankers 22,880,392  67 

Country  checks,  other  cash  items,  and  fractional  currency  1 14,73°  52 

Exchanges  for  Clearing-House 19,962,842.81 

Checks  on  other  banks  in  this  city 1,252,563.50 

Notes  of  other  national  banks 69,045 .  00 

Federal  Reserve  notes 736,500. 00 

Lawful  Reserve,  viz.: 

Specie  in  vault $69,914,025.86 

Legal-tender  notes  in  vault 23,020,000.00 

Deposit  in  Federal  Reserve  Bank.  .  .     27,670.346.07 

120.604,371.93 

Gold  bullion 2,317,760.60 

Redemption  fund  with  U.S.  Treasurer  (5  per  cent  of  circu- 
lation)    i7'*^,'37-50 

Due  from  U.S.  Treasurer 42,000.00 

Total ?4 1 5, 263.936  48 

'Report  of  condition  at  dose  of  business,  Manh  4,  101  ^. 


52  PRINCII'LKS  OF  MONEY  AND  BANKING 

LIABILITIES 

Capital  stock  paid  in $  25,000,000, oo 

Surplus  fund 25,000,000. 00 

Undivided  profits,  less  expenses  and  taxes  paid 10,818,895.39 

National  bank  notes  outstanding 3,562,750.00 

Due  to  banks  and  bankers $163,766,269 .  56 

Dividends  unpaid 890. 00 

Individual  deposits  subject  to  check 155,948,413.  70 

Demand  certificates  of  deposit 1,683,864. 63 

Certified  checks ■ 4,328,361 .  75 

Cashier's  checks  outstanding 2,399,974.  57 

Time  certificates  of  deposit 338,119. 13 

328,465,893.34 

U.S.  and  other  bonds  borrowed 5,592,950. 00 

Bills  payable,  including  obligations  representing  money 

borrowed 3,211,811.22 

Acceptances  based  on  imports  and  exports 7,226,858.  59 

Letters  of  credit 5,690,528. 54 

Other  liabihties 694,249.40 


Total $415,263,936.48 

Taylor  Discount  and  Deposit  Bank' 
resources 
Reserve  fund : 

Cash,  specie  and  notes $13,605. 70 

Due  from  approved  reserve  agents 56,217 .  04 

$  69,822.74 

Nickels  and  cents 204 .  74 

Assets  held  free,  viz.: 
Bills  discounted: 

Upon  pne  name $  35,000. 00 

Upon  two  or  more  names 245,744.  20 

280,744.  20 

Time  loans  with  collateral 49,900. 00 

Loans  on  call  with  collateral 35,445. 00 

Loans  on  call  upon  two  or  more  names 2,370. 00 

Loans  secured  by  bonds  and  mortgages 90,831 .  00 

Bonds,  stocks,  etc 166,308  00 

Office  building  and  lot 17,000. 00 

Furniture  and  fixtures 2,250. 00 

Overdrafts 31  •  7o 


Total $714,900. 18 

'  A  state  bank  at  Taylor,  Lackawanna  County,  Pennsylvania,   at  close  of 
business  November  2,  19 14. 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  53 

LIABILITIES 

Capital  stock  paid  in $  50,000  00 

Surplus  fund 50,000. 00 

Undivided  profits,  less  expenses  and  taxes  paid 22,491 .  84 

Individual  deposits  subject  to  check S  93,318.  28 

Individual  deposits,  time 497,443.96 

Deposits,  U.S.  postal  savings 132.  21 

Certified  checks 20. 00 

Cashier's  checks  outstanding 954. 70 

591,869.15 

Due  to  banks  and  trust  companies,  etc.,  not  in  reserve 539. 19 

Total $7 14,900. 18 


20.    ANALYSIS  OF  A  BANK  STATEIMENT 

As  in  any  other  business,  the  statement  of  a  bank  aims  to  show 
at  a  glance  the  financial  condition  of  the  institution.  All  of  the  debts 
or  obligations  owed  by  the  bank  are  arrayed  under  the  heading  of 
Liabihties,  and  all  the  property  of  the  bank  together  with  the  debts 
or  obligations  owing  to  the  bank  are  grouped  under  Assets  or  Re- 
sources. In  the  typical  statement  published  for  the  examination  of 
the  general  public  the  form  is  usually  condensed  to  ten  or  a  dozen 
items,  though  in  the  fuller  account  submitted  periodically  to  the 
Comptroller  of  the  Currency  these  are  subdivided  into  more  than  a 
score  of  items  on  either  side. 

The  habilities  of  a  bank  are  of  two  classes:  those  to  the  stock- 
holders of  the  corporation,  and  those  to  the  creditors  or  customers  of 
the  bank.  Under  stockholders'  liabilities  may  be  classified  three 
items:  Capital,  surplus,  and  undivided  profits.  To  understand 
clearly  why  capital  should  be  set  down  as  a  liability  of  the  bank, 
it  is  necessary  to  conceive  of  the  banking  corporation  as  in  itself  a 
business  entity  to  which  the  stockholders  have  intrusted  their  funds. 
The  capital  is  not  owned  by  the  banking  institution,  but  by  the  indi- 
viduals who  have  bought  its  certificates  of  stock.  These  stockholders 
have  the  shares  as  evidence  of  the  obligation  of  the  bank  to  them; 
and  in  turn  the  bank  must  enter  on  its  books  a  statement  of  the  amount 
of  capital  thus  owed  to  stockholders. 

Capital  is  to  be  carefully  distinguished  from  specie  or  cash.  The 
difference  can  best  be  made  clear  by  reference  to  the  first  entries  that 
would  have  to  be  made  on  the  books  of  a  newly  organized  bank. 


54  PRINCIPLKS  OF  MONEY  AND  BANKING 

If  $100,000  is  raised  from  the  sale  of  1,000  shares  of  stock  at  Si 00  per 
share,  the  following  entry  would  be  made  on  the  bank's  books: 

Resources  Liabilities 

Cash |ioo,ooo       Capital $100,000 

As  already  indicated,  the  entry  of  Capital  is  the  recording  of  the 
bank's  obligations  to  its  owners.  The  entry  of  a  like  amount  under 
Cash  means  that  there  is  in  the  vaults  of  the  bank  specie  to  the  amount 
of  $100,000  available  for  the  use  of  the  bank.  The  Capital  item  will 
remain  unchanged  so  long  as  no  new  stock  is  issued  or  existing  stock 
diminished,  but  the  Cash  entry  changes  constantly  as  the  bank 
engages  in  its  daily  operations.  Instead  of  using  the  term  Cash, 
however,  the  term  Reserve  is  ordinarily  employed. 

The  item  Undivided  Profits  states  the  amount  of  earnings  that 
have  been  accumulated  since  the  last  di\ddend  date.  It  is  a  liability, 
because  the  dividends  are,  Hke  the  Capital,  owed  to  the  stockholders. 
Like  Capital,  also,  it  is  represented  on  the  resources  side  of  the  account 
by  Cash.  WTien  dividends  are  declared  and  paid  the  Undivided  Profits 
account  is  lessened  by  the  amount  of  the  dividend  payment,  and  the 
Cash  item  is  reduced  by  the  same  amount,  provided  the  dividends  are 
paid  in  the  form  of  cash. 

Surplus  is  closely  akin  to  Capital.  It  may  arise  in  at  least  two 
ways.  When  stock  of  the  par  value  of  $100,000  is  sold  above  par, 
say  for  $110,000,  the  accoimt  would  appear  as  follows: 

Resources  Liabilities 

Cash $110,000      Capital $100,000 

Surplus 10,000 

This  Surplus  may  be  increased  from  year  to  year  through  a  policy 
of  not  paying  all  the  earnings  of  a  bank  to  the  stockholders  in  the  form 
of  dividends.  Suppose  a  bank  has  Undivided  Profits  to  the  amount  of 
$20,000.  If  the  Capital  is  $100,000  the  bank  could  pay  a  10  per  cent 
dividend  to  the  stockholders  and  keep  $10,000  in  the  business  to 
supplement  the  existing  capital.  When  this  is  done  it  is  carried  to 
Surplus.  The  Capital  account,  however,  and  in  consequence  the 
number  of  shares  of  stock  outstanding,  are  kept  the  same  as  before. 
And  dividends  are  computed  on  the  Capital  only— never  on  Surplus. 

The  other  liabiUties  of  a  bank  take  two  main  forms,  that  of 
Deposits  and  that  of  Circulation  or  Notes.  The  latter  item  is  a 
statement  of  the  total  amount  of  obligations  the  bank  has  outstand- 
'm<r  in  the  form  of  its  own  notes  or  promises  to  pay.     Anyone  who 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  55 

holds  a  bank  note  has  a  claim  for  cash  against  the  bank  that  issued  it 
for  the  amount  stated  on  the  face  of  the  note.  Bank  notes  are 
always  payable  on  demand. 

Deposits  are  of  three  classes:  Individual,  Bank,  and  Government 
deposits.  The  first  is  a  statement  of  the  amount  owed  by  the  bank 
to  persons  holding,  not  notes  of  the  bank,  but  a  right  to  draw  upon  the 
bank  for  funds,  as  evidenced  by  a  certificate  of  deposit,  balanced 
passbook,  or  monthly  statement  of  account.  Such  deposits  may  be 
payable  either  upon  demand  or  upon  notice  given  a  certain  number 
of  days  in  advance.  Bank  deposits  is  a  statement  of  the  obligations 
of  the  bank  to  other  banks,  and  is  often  entered  merely  as  "Due  other 
banks."  In  a  more  detailed  statement  this  item  is  divided  into: 
Due  national  banks,  Due  state  banks.  Due  trust  companies  and  savings 
banks.  Government  deposits  do  not  differ  from  the  others  in  prin- 
ciple;  they  are  merely  funds  owing  to  the  government. 

Other  items  found  among  liabihties  in  the  typical  statement  are 
Certified  checks  and  Cashiers'  checks.  The  former  arises  as  follows : 
Depositor  X  writes  a  check  against  his  account  for,  say,  $100  and 
asks  the  cashier  of  the  bank  to  certify  that  the  account  is  good  for 
the  amount,  and  hence  that  the  check  will  be  paid  at  maturity,  by 
writing  "Certified"  across  the  face  of  the  check  and  signing  his  name 
thereto.  When  the  cashier  does  this  the  bank  becomes  directly 
Uable  for  the  payment  of  the  check,  and  consequently  immediately 
deducts  the  amount  from  Individual  deposits  (X's  account)  and 
adds  it  to  Certified  checks.  A  Cashier's  check  is  an  order  on  the 
bank  to  pay  a  certain  sum  drawn  by  the  cashier  rather  than  by  an 
individual  depositor. 

Acceptances  based  on  imports  and  exports  represent  obligations 
resulting  from  the  bank's  accepting  drafts  drawn  against  it  by  persons 
engaged  in  international  trade.  Accepting  a  draft  is  ccjuivalent 
to  a  promise  to  pay.  Letters  of  credit  also  arise  in  international 
transactions.  The  bank  agrees  to  guarantee  the  credit  of  a  merchant 
who  wishes  to  buy  goods  abroad.  The  bank  in  this  case  docs  not 
accept  drafts  drawn  against  it,  but  asks  a  London  correspondent  to 
accept  the  drafts,  the  bank  agreeing  to  collect  from  the  merchant 
and  forward  the  funds  to  its  correspondent  before  the  date  of  maturity 
of  the  drafts.     Such  business  is  done  on  a  commission  l)asis. 

On  the  resources  side  of  a  bank  statement  we  find  first  the  item 
of  Loans,  or  Loans  and  discounts.  This  item  indicates  that  the  bank 
has  claims  against  individuals  who  have  borrowed  funds  to  the  amount 


56  I'RINCIPLKS  or  MONEY  AND  BANKING 

named.  As  an  evidence  of  these  claims  the  bank  has  in  its  port- 
folio bills  of  exchange  and  promissory  notes  of  individuals  which 
cover  the  amount  of  the  loans.  These  loans  may  be  either  on  time 
or  demand. 

There  is  a  slight  difference  between  a  loan  and  a  discount.  In  the 
case  of  a  loan  the  interest  is  payable  at  the  expiration  of  the  loan, 
or,  if  it  be  a  long-time  obligation,  at  stated  intervals  annually  or 
semiannually.  In  the  case  of  a  discount,  on  the  other  hand,  the 
interest  is  deducted  in  advance  and  the  borrower  is  given,  not  $i,ooo, 
but  $i,ooo  less  the  interest  for  the  time  the  loan  is  to  run.  Then  at 
the  date  of  maturity  he  repays  to  the  bank  only  the  face  of  the  loan, 
$i,ooo.  A  discount,  then,  is  merely  a  loan  in  which  the  interest  is 
payable  in  advance  rather  than  at  maturity.  In  practice  nowadays 
discounting  is  almost  universal,  except  for  call  or  demand  loans. 

The  item  of  Bonds,  securities,  etc.,  shows  that  the  bank  has  in  its 
possession  various  stocks  and  bonds  which  it  has  purchased  from  time 
to  time.  United  States  bonds  to  secure  circulation  indicates  the 
ownership  of  bonds  that  are  devoted  to  a  specific  purpose,  that  of 
serving  as  security  for  the  issue  of  circulating  notes.  These  bonds 
are  not  held  in  the  bank's  own  vaults,  for  the  law  requires  that  they 
shall  be  deposited  in  the  United  States  Treasury  at  Washington.' 
They  are  nevertheless  an  asset  and  the  bank  receives  interest  from 
the  government  just  as  it  would  if  the  bonds  were  in  its  own  possession. 

The  entry  Req,l  estate  is  a  statement  of  the  cost  value  of  the  bank 
buiMing,  furniture,  and  fixtures  and  the  ground  upon  which  the  bank 
is  located,  together  with  such  other  real  estate  as  may  be  necessary 
to  the  conduct  of  the  banking  business. 

Reserve  is  the  statement  of  the  amount  of  money  that  the  bank  has 
in  its  till  and  vaults.  It  is  made  up  of  all  the  various  forms  of  our 
currency,  except  bank  notes  and  minor  coins.  If  a  national  bank 
holds  in  its  possession  notes  of  other  banks,  a  separate  entry  is  made 
"Notes  of  other  banks"  or  "Bills  of  other  banks."  This  is  because 
the  law  specifies  that  no  national  bank  shall  count  bank  notes  as  a 
part  of  its  specie  reserve.  A  state  bank,  however,  not  subject  to  this 
provision  would  not  need  to  make  a  separate  entry  for  bank  notes. 

Items  closely  connected  with  cash  are  "Due  from  other  banks" 
and  "Exchanges  for  clearing-house,"  or  "Checks  for  clearing,"  to 
use  another  expression.     The  former  indicates  that  this  bank  has 

*  Under  the  federal  reserve  system  this  item  will  probably  eventually 
disappear. 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  57 

deposits  with  other  banks  against  which  it  can  draw  on  demand. 
"Exchanges  for  clearing-house"  means  that  this  bank  has  checks 
on  other  banks  to  the  amount  named,  which  it  has  cashed  or  credited 
to  the  accounts  of  its  depositors,  and  in  exchange  for  which  it  may 
receive  cash  from  the  banks  against  which  the  checks  were  respec- 
tively drawn.  In  practice,  however,  when  presented  to  the  clearing- 
house these  checks  are  largely  counterbalanced  by  similar  claims 
against  this  bank,  and  only  a  small  net  balance,  one  way  or  the  other, 
need  be  paid  in  cash. 

Federal  reserve  notes  are  notes  issued  by  the  regional  (central) 
institutions.  They  are  to  nearly  all  intents  and  purposes  as  good 
as  cash,  though  they  may  not  be  counted  as  part  of  the  lawful 
reserve. 

21.    DISCOUNT,  DEPOSIT,  AND  ISSUE' 
By  CHARLES  F.  DUNBAR 

The  business  of  a  commercial  bank  is  said  to  be  to  lend  or  discount 
and  to  hold  deposits.  With  these  two  functions  may  be  combined  a 
third,  that  of  issuing  bank-notes,  or  the  bank's  own  promises  to  pay, 
for  use  in  general  circulation  as  a  substitute  for  money. 

The  borrower  who  procures  a  loan  from  a  bank  does  so  in  order 
to  provide  himself  with  the  means  either  of  making  some  purchase 
or  of  paying  some  debt.  He  seeks,  therefore,  to  obtain,  not  neces- 
sarily money,  but  a  certain  amount  of  purchasing  power  in  available 
form,  or  of  whatever  may  be  the  usual  medium  of  pa>Tnent,  measured 
in  terms  of  money.  If  we  suppose  him  to  be  a  merchant,  buying  and 
selling  goods  upon  credit  in  the  regular  course  of  his  business,  he  is 
likely  at  any  given  time  to  have  in  his  hands  a  greater  or  less  number 
of  notes,  not  yet  due,  signed  by  the  persons  to  whom  he  has  heretofore 
made  sales;  and  it  is  in  the  form  of  a  loan,  made  upon  the  security 
of  one  or  more  of  these  notes  and  giving  him  immediate  command 
of  the  amount  which  will  become  due  upon  them  in  the  future,  that 
he  is  likely  to  procure  what  he  needs  from  the  bank.  Tins  loan 
may  be  supposed  to  take  the  form  of  what  is  termed  a  discount;  in 
which  case,  in  exchange  for  the  note  "discounted,"  the  borrower  is 
entitled  to  receive  from  the  bank  the  amount  promised  in  the  note, 
less  the  interest  on  that  amount  computed  at  an  agreed  rate  for  the 
time  which  the  note  has  still  to  run.     The  discounted  note  becomes 

'  Adapted  from  Theory  and  History  of  Banking,  pp.  9-15.  (G.  P.  Putnam's 
Sons,  1891.) 


58  PRINCIPLES  OF  MONEY  AND  BANKING 

the  property  of  the  bank,  to  which  the  promisor  is  henceforward 
bound  to  make  payment  at  maturity;  and  this  payment  when  made 
obviously  restores  to  the  bank  the  amount  advanced  by  it  in  exchange 
for  the  note,  together  with  the  interest  which  was  the  inducement  for 
making  the  exchange. 

It  is  now  clear,  however,  that  the  operation  which  we  have 
described,  although  spoken  of  as  a  loan  by  the  bank  to  a  borrower, 
is  in  fact  something  more  than  a  loan.  The  note  when  given  was 
evidence  that  its  holder  owned  the  right  to  receive  at  a  fixed  date 
a  certain  sum  of  money,  and  this  right  the  so-called  borrower  has 
ceded  to  the  bank.  Passing  over  for  the  present  all  question  as  to 
what  he  has  received  in  exchange,  his  cession  of  property  by  sale  is 
as  distinct  and  complete  as  if  he  had  sold  a  bale  of  cotton  to  another 
merchant  instead  of  selling  to  a  bank  his  right  to  receive  money 
in  the  future.  The  note  has  ceased  to  be  his,  and  now  takes  its  place 
among  the  investments  or  securities  of  the  bank,  although  custom 
may  lead  to  its  classification  as  a  "loan  or  discount." 

We  have  now  to  consider  what  it  is  that  the  bank  gives  in  exchange 
for  the  right  to  demand  and  receive  money  at  a  future  time,  acquired 
by  it  under  these  circumstances.  The  proceeds  of  the  discounted 
note,  or  its  nominal  amount  less  the  interest  for  the  time  for  which 
it  is  to  run,  are  in  the  first  instance  placed  to  the  credit  of  the  mer- 
chant, to  be  drawn  out  by  him  at  once  or  at  different  times,  as  con- 
venience or  necessity  may  dictate.  In  thus  crediting  him  with  the 
proceeds,  the  bank  plainly  gives  to  him  simply  the  right  to  call  upon 
it  at  pleasure  for  that  sum  of  money.  Whether  this  right  is  exercised 
at  once  by  demanding  and  receiving  the  money,  or  whether  the  exer- 
cise of  it  is  postponed  as  regards  the  whole  or  a  part  of  the  amount, 
in  either  case  the  right  to  demand,  or  to  "draw,"  is  the  equivalent 
received  by  the  merchant  in  exchange  for  the  right,  sold  by  him  to 
the  bank,  of  which  the  note  discounted  was  the  evidence.  The  sum 
which  he  is  thus  entitled  to  call  for  is  said,  so  long  as  it  stands  to  his 
credit,  to  be  deposited  in  the  bank,  or  to  be  a  deposit  standing  in  his 
name,  so  that  the  transaction  is  seen  to  be,  both  in  form  and  in  sub- 
stance, an  exchange  of  rights. 

But  a  deposit  may  owe  its  origin  to  a  different  operation  from  that 
which  has  just  been  examined.  It  happens  every  day  that  the  mer- 
chant, having  cash  in  hand,  prefers  not  to  hold  it  in  his  possession 
until  it  is  required  for  use,  but  to  "deposit"  it  with  the  bank  where 
he  usually  transacts  his  business  until  he  needs  to  use  it.     In  this 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  59 

case,  when  he  makes  his  deposit,  the  property  in  the  money  or  sub- 
stitutes for  money  actually  handed  in  by  him  passes  to  the  bank, 
and  he  receives  in  exchange  the  right  to  demand  and  receive  at 
pleasure,  not  that  which  he  paid  in,  but  an  equivalent  amount.  Here, 
then,  as  in  the  former  case,  the  transaction  is  in  effect  a  sale,  although 
the  use  of  the  word  "deposit"  seems  at  first  to  suggest  an  entirely 
different  idea  of  its  character. 

The  other  leading  operations  of  banks,  when  analyzed,  can  also 
be  resolved  into  cases  of  the  exchange  of  rights  against  rights,  or 
of  rights  against  money;  as,  for  example,  when  the  bank,  for  the 
convenience  of  its  customer  or  depositor,  undertakes  to  collect  a  note 
due  to  him  by  some  third  party,  in  which  case  the  amount  paid  to  the 
bank  in  money  by  the  promisor  is  passed  to  the  credit  of  the  promisee 
as  a  deposit.  Here  the  bank  has  received  money  for  the  account  of 
the  depositor,  and  has  given  to  him  in  exchange  a  right  to  draw  at 
pleasure  for  the  amount  or  any  part  thereof,  the  property  in  the  money 
actually  paid  having  passed  absolutely  to  the  bank  in  exchange  for 
the  right  to  draw.  And  again,  when  the  bank  buys  from  a  merchant 
a  bill  of  exchange,  or  when  it  sells  a  bill  of  exchange  drawn  by  itself 
on  some  correspondent,  it  effects  an  exchange  of  money  against  a 
right,  or  of  a  right  against  money,  strongly  resembling  those  already 
considered. 

A  little  consideration  of  the  manner  in  which  notes  are  issued 
by  banks  will  show  that  in  the  bank  note  we  have  only  another  form 
of  liability,  differing  in  appearance,  but  not  in  substance,  from  the 
liability  for  deposits.  The  bank  note  is  the  duly  certified  promise 
of  the  bank  to  pay  on  demand,  adapted  for  circulation  as  a  convenient 
substitute  for  the  money  which  it  promises.  It  is  issued  by  the  bank, 
and  can  be  issued  only  to  such  persons  as  are  willing  to  receive  the 
engagement  of  the  bank  in  this  form  instead  of  recei\ing  money, 
or  instead  of  being  credited  with  a  deposit.  Thus  the  so-called  bor- 
rower, who  in  the  first  instance  has  been  credited  with  a  deposit  and 
to  whom  the  bank  is  therefore  to  this  extent  liable,  may  prefer  to 
draw  the  amount  in  notes  of  the  bank  and  to  use  tliem  in  making  his 
payments.  But,  in  this  case,  it  is  plain  that  the  liability  of  the  bank 
is  changed  only  in  form;  it  is  still  a  liability  to  pay  a  certain  sum  of 
money  on  demand.  And  so  if  the  depositor  pays  in  money  and 
receives  notes,  or  receives  notes  in  satisfaction  of  a  demand  of  an\- 
kind  against  the  bank,  he,  in  fact,  foregoes  the  use  of  the  money 
itself  and  consents  to  receive  in  its  stead  a  promise  to  pay  upt)n 


6o  PRINCIPLES  OF  MONEY  AND  BANKING 

(Icniand  and  to  receive  the  evidence  of  that  promise  in  the  form  of 
notes.  The  question  in  which  form  he  shall  hold  his  right  of  demand 
against  the  bank  is  one  to  be  dcciflcd  by  the  nature  of  his  business 
or  by  his  present  convenience,  but  plainly  the  decision  of  this  question 
in  no  way  alters  the  relation  between  himself  or  any  transferee  of  his 
right,  on  the  one  hand,  and  the  bank  on  the  other.  The  notes  issued 
by  a  bank  are  thus  a  UabiUty  distinguishable  in  form  only  from  its 
liability  for  deposits,  and  the  fimctions  of  deposit  and  issue,  instead  of 
being  distinct,  as  is  often  assumed,  are  one  in  substance. 

22.    THE  ONE  UNDERLYING  FUNCTION  OF  A  BANK* 
By  H.  PARKER  WILLIS 

What  is  banking  ?  Many  writers  define  a  bank  as  an  institution 
which  exercises  the  functions  of  discount,  deposit,  and  issue,  a  classi- 
fication which  yields  very  Httle  insight  because  of  the  fact  that  such 
a  grouping  of  functions  is  merely  a  v»^ay  of  describing  banking  as  an 
operation  from  different  points  of  view.  WTiat  the  bank  does  is  the 
same  under  each  of  these  heads;  there  is  no  difference  in  its  essential 
performance.  Reduced  to  its  lowest  terms,  this  essential  function 
is  that  of  guaranteeing  the  credit  of  individuals.  The  basic  banking 
transaction  may  be  described  as  follows:. 

A  has  purchased  goods  from  B  and  has  given  B  a  document  or 
"note,"  in  which  he  promises  to  pay  B  the  sum  of  $1,000  with  interest 
at  the  end  of  ninety  days.  We  may  assume  that  this  pajonent  is 
absolutely  certain,  and  that  there  is  no  risk  of  loss.  B,  however, 
wishes  to  get  means  of  payment  immediately  in  order  to  meet  his 
own  obUgations.  In  order  to  do  this,  he  resorts  to  someone  who  has 
immediate  funds  and  asks  him  to  extend  "accommodation."  The 
banker  takes  the  note  from  B,  and  B  gets  in  exchange  the  right  to 
draw  upon  the  bank  at  sight  up  to  an  amoimt  agreed  upon.  This 
process  is  called  discount,  and  the  difference  between  the  amount 
that  B  can  draw  at  sight  and  the  face  of  the  note  is  the  discount  for 
this  transaction.  The  banker  seldom,  if  ever,  enters  into  such  a 
transaction  without  having  B's  endorsement  or  guarantee  on  the  note, 
but  it  is  plain  that  what  has  been  done  is  to  substitute  the  credit  of 
the  bank  for  the  credit  of  A  and  B.  The  banker  counts  upon  not 
being  asked  to  pay  money  for  the  drafts  drawn  on  him  by  B.  That 
is  to  say,  he  expects  that  not  everyone  to  whom  B  gives  a  draft  or 

'  Adapted  from  The  Federal  Reserve,  pp.  5-9.     (Doubleday,  Page  &  Co.,  1915.) 


PRINCIPLES  OF  "CO:\LMERCI/\L"  BANKING  Ol 

check  on  him  will  want  to  cash  it,  or,  if  such  cashing  should  be  de- 
manded, that  other  checks  and  drafts  will  come  into  his  possession 
sufficient  to  offset  those  which  he  is  thus  asked  to  make  good. 

This  hope  is  founded  upon  the  fact  that  the  banker  accepts  the 
funds  on  deposit.  He  allows  persons  who  want  to  have  their  money 
safely  kept  to  leave  it  with  him,  and  this  affords  them  a  convenience 
because  they  can  now  pay  by  means  of  checks.  When  he  makes  a 
discount  he  may,  and  usually  does,  in  the  United  States,  make  it 
merely  by  crediting  the  person  to  whom  it  is  granted  with  a  fixed 
sum,  allowing  that  person  to  draw  on  it  to  the  amount  indicated.  It 
is  clear  that  this  "deposit"  function  is  the  same  as  the  discount  func- 
tion, except  in  so  far  as  the  deposits  with  the  banker  consist  of  money. 
Where  they  are  created  simply  through  crediting  a  customer  with  a 
specified  amount,  the  deposit  function  is  merely  another  aspect  of 
the  discount  function.  Neither  function  could  be  carried  on  without 
the  other. 

It  may  be  that  the  customer  of  the  bank  would  rather  not  receive 
the  credit  on  the  books  of  the  institution  because  the  persons  with 
whom  he  deals  do  not  understand  the  check  system  or  have  no  facili- 
ties for  cashing  checks.  Should  that  be  true,  the  customer  wiD 
probably  ask  to  receive  his  discount  in  currency.  If  the  banker  is 
allowed  to  exercise  the  issue  function,  he  will  then  merely  hand  the 
person  to  whom  he  has  granted  the  discount  a  quantity  of  "bank 
notes."  They  are  notes  which  he  agrees  to  pay  at  sight  if  presented. 
In  this  phase  of  the  operation  the  banker  has  merely  taken  the  note 
from  B  and  given  in  exchange  a  quantity  of  his  (the  banker's  own) 
notes  in  small  denominations.  The  banker  now  has  A's  note  endorsed 
by  B  for  Si,ooo  for  ninety  days,  while  B,  having  paid,  say,  Sio  for  the 
service,  has,  say,  ninety-nine  of  the  banker's  notes  of  ten-dollar 
denomination  payable  to  bearer.  The  question  may  be  asked  why 
B  did  not  simply  issue  his  own  notes,  numbering  one  hundred,  of 
denominations  of  Sio,  and  pay  them  to  anyone  who  desired  him  to 
settle  his  obligation.  There  is  no  reason  why  he  might  not  have  done 
so  except  that  the  banker's  credit  is  better  known  than  his,  and  that 
the  banker  specifically  undertakes  to  pay  his  own  notes  in  money 
when  they  are  presented.  It  is  quite  true  that  in  most  cases  the  holder 
of  such  a  note  will  not  present  it  for  payment;  but  one  principal 
reason  why  he  does  not  do  so  is  that  he  knows  he  can,  if  he  chooses, 
licjuidate  in  that  way  at  any  time.  Performance  of  the  operation 
just  referred  to  over  and  over  again,  and  proju-r  protection  of  the 


62 


PRINCIPLES  OF  MONEY  AND  BANKING 


bank's  notes  and  deposits  issued  or  granted  so  that  the  holder  may 
get  cash  at  sight,  is  commercial  banking.  The  banker  may  modify 
the  plan  of  his  business  by  entering  into  an  agreement  with  his  cus- 
tomers to  pay  them,  not  at  sight,  but  on  time;  and  in  that  case  he  is 
able  to  use  such  funds  as  come  to  him  for  long-time  investments. 
The  basic  idea  is  the  same  in  the  one  case  as  in  the  other,  but  the 
method  of  procedure  is  different. 


23.    RATIO  OF  NOTES  TO  DEPOSITS  IN  DIFFERENT  CLASSES 

OF  BANKS ^ 

(In  millions  of  dollars) 


Other  Central 

New  York  City 

Reserve  and 

Country  Banks 

Totals 

Year 

Reserve  Cities 

Notes 

Deposits 

Notes 

Deposits 

Notes 

Deposits 

Notes 

Deposits 

1870. . 

•       32.9 

167.0 

68.4 

134-7 

190-5 

199.7 

291.8 

501.4 

1875.. 

.       18 

3 

173-5 

69 

4 

197 

9 

230.7 

293 

2 

318.4 

664.6 

1880. . 

.       18 

6 

242.0 

72 

4 

234 

3 

226.4 

397 

2 

317-4 

873-5 

1885.. 

9 

9 

250 -5 

55 

3 

302 

I 

203.7 

549 

8 

268.9 

1,102.4 

1890. . 

3 

6 

251-4 

15 

I 

469 

6 

104.2 

«43 

8 

122.9 

1,564.8 

1895- •• 

•      14 

3 

299.7 

32 

7 

509 

3 

135-4 

892 

7 

182. s 

1,701.7 

1900. . . 

•      29 

3 

420.7 

03 

7 

775 

2 

190.9 

1,312 

3 

283.9 

2,508.2 

1905 . . . 

•      53 

7 

657-7 

120 

4 

1,086 

5 

294.9 

2,076 

5 

459-0 

3,820.7 

1909... 

■        52 

8 

780.0 

181 

8 

1,477 

2 

423-5 

2,754 

9 

658.1 

5,012.1 

•  'From  Statistics  of  Banks  and  Banking  in  the  United  States,  i86j-igoQ. 
(National  Monetary  Commission,  1910.) 


PRINCIPLES  OF  "COMMERCIAL"  BAXKIXG 


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64  PRINCIPLES  OF  MONEY  AND  BANKING 

25.    THE  FUNCTION  OF  A  CASH  RESERVE* 
By  IRVING  FISHER 

It  cannot  be  too  strongly  emphasized  that,  in  any  balance  sheet, 
the  value  of  the  liabilities  rests  on  that  of  the  assets.  The  deposits 
of  a  bank  are  no  exception.  We  must  not  be  misled  by  the  fact  that 
the  cash  assets  may  be  less  than  the  deposits.  When  the  uninitiated 
first  learn  that  the  number  of  dollars  which  note-holders  and  depositors 
have  the  right  to  draw  out  of  a  bank  exceeds  the  number  of  dollars 
in  the  bank,  they  are  apt  to  jump  to  the  conclusion  that  there  is 
nothing  behind  the  notes  or  deposit  liabilities.  Yet  behind  all  these 
obligations  there  is  always,  in  the  case  of  a  solvent  bank,  full  value; 
if  not  actual  dollars,  at  any  rate  dollars'  worth  of  property.  By  no 
jugglery  can  the  liabilities  exceed  the  assets  except  in  insolvency, 
and  even  in  that  case  only  nominally,  for  the  true  value  of  the  liabiUties 
("bad  debts")  will  only  equal  the  true  value  of  the  assets  behind 
them. 

These  assets  are  largely  the  notes  of  merchants,  although,  so 
far  as  the  theory  of  banking  is  concerned,  they  might  be  any  property 
whatever.  If  they  consisted  in  the  ownership  of  real  estate  or  other 
wealth  in  "fee  simple,"  so  that  the  tangible  wealth  which  property 
always  represents  were  clearly  evident,  all  mystery  would  disappear. 
But  the  effect  would  not  be  different.  Instead  of  taking  grain, 
machines,  or  steel  ingots  on  deposit,  in  exchange  for  the  sums  lent, 
banks  prefer  to  take  interest-bearing  notes  of  corporations  and  indi- 
viduals who  own,  directly  or  indirectly,  grain,  machines,  and  steel 
ingots;  and  by  the  banking  laws  the  banks  are  even  compelled  to  take 
the  notes  instead  of  the  ingots.  The  bank  finds  itself  with  liabilities 
which  exceed  its  cash  assets;  but  in  either  case  the  excess  of  liabilities 
is  balanced  by  the  possession  of  other  assets  than  cash.  These  other 
assets  of  the  bank  are  usually  liabilities  of  business  men.  These 
liabilities  are  in  turn  supported  by  the  assets  of  the  business  men.  If 
we  continue  to  follow  up  the  ultimate  basis  of  the  bank's  liabilities 
we  shall  find  it  in  the  visible  tangible  wealth  of  the  world. 

We  have  seen  that  the  assets  must  be  adequate  to  meet  the 
liabilities.  We  now  wish  to  point  out  that  the  form  of  the  assets 
must  be  such  as  will  insure  meeting  the  liabilities  promptly.  Since 
the  business  of  a  bank  is  to  furnish  quickly  available  property  (cash 

'  Adapted  from  The  Purchasing  Power  of  Money,  pp.  40-46.  (The  Mac- 
millan  Co.,  1913.) 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  65 

or  credit)  in  place  of  the  "slower"  property  of  its  depositors,  it  fails 
of  its  purpose  when  it  is  caught  with  insufficient  cash.  Yet  it  "makes 
money"  partly  by  tying  up  its  quick  property,  i.e.,  lending  it  out 
where  it  is  less  accessible.  Its  problem  in  policy  is  to  tie  up  enough 
to  increase  its  property,  but  not  to  tie  up  so  much  as  to  get  tied  up 
itself.  So  far  as  anything  has  yet  been  said  to  the  contrar\-,  a  bank 
might  increase  indefinitely  its  loans  in  relation  to  its  cash  or  in  rela- 
tion to  its  capital.  If  this  were  so,  deposit  currency  could  be  indefi- 
nitely inflated. 

There  are  limits,  however,  imposed  by  prudence  and  sound 
economic  policy  on  both  these  processes.  Insolvency  and  insufficiency 
of  cash  must  both  be  avoided.  Insolvency  is  that  condition  which 
threatens  when  loans  are  extended  with  insufficient  capital.  In- 
sufl5ciency  of  cash  is  that  condition  which  threatens  when  loans  arc 
extended  unduly  relatively  to  cash.  Insolvency  is  reached  when 
assets  no  longer  cover  liabilities  (to  others  than  stockholders),  so  that 
the  bank  is  unable  to  pay  its  debts.  Insufficiency  of  cash  is  reached 
when,  although  the  bank's  total  assets  are  fully  equal  to  its  liabilities, 
the  actual  cash  on  hand  is  insufficient  to  meet  the  needs  of  the  instant 
and  the  bank  is  unable  to  pay  its  debts  on  demand. 

The  less  the  ratio  of  the  value  of  the  stockholders'  interests  to  the 
value  of  liabiHties  to  others  the  greater  is  the  risk  of  insolvency;  the 
risk  of  insufficiency  of  cash  is  the  greater  the  less  the  ratio  of  the  cash 
to  the  demand  liabilities.  In  other  words,  the  leading  safeguard 
against  insolvency  lies  in  a  large  capital  and  surplus,  but  the  leading 
safeguard  against  insufficiency  of  cash  lies  in  a  large  cash  reser\-e. 
Insolvency  proper  may  befall  any  business  enterprise;  insufficiency 
of  cash  relates  especially  to  banks  in  their  function  of  redeeming  notes 
and  deposits. 

Since,  then,  insufficiency  of  cash  is  so  troublesome  a  condition — 
so  difficult  to  escape  when  it  has  arrived,  and  so  difficult  to  forestall 
when  it  begins  to  approach — a  bank  must  so  regulate  its  loans  and 
note  issues  as  to  keep  on  hand  a  sufficient  cash  reserve,  and  thus  pre- 
vent insufficiency  of  cash  from  even  threatening.  It  can  regulate 
the  reserve  by  alternately  selling  securities  for  cash  and  loaning  cash 
on  securities.  The  more  the  loans  in  proportion  to  the  cash  on  hand 
the  greater  the  profits,  but  the  greater  the  danger  also.  In  the  long 
run  a  bank  maintains  its  necessary  reserve  by  means  of  adjusting  the 
interest  rate  charged  for  loans.  If  it  has  few  loans  and  a  rcscr\c 
large  enough  to  support  loans  of  much  greater  volume,  it  will  endeavor 


66  PRINCIPLES  OF  MONEY  AND  BANKING 

to  extend  its  loans  by  lowering  the  rate  of  interest.  If  its  loans  are 
large  and  it  fears  too  great  demands  on  the  reserve,  it  will  restrict 
the  loans  by  a  high  interest  charge.  Thus,  by  alternately  raising  and 
lowering  interest,  a  bank  keeps  its  loans  within  the  sum  which  the 
reserve  can  support,  but  endeavors  to  keep  them  (for  the  sake  of 
profit)  as  high  as  the  reserve  will  support. 

If  the  sums  owed  to  individual  depositors  are  large  relatively 
to  the  total  liabilities,  the  reserve  should  be  proportionately  large, 
since  the  action  of  a  small  number  of  depositors  can  deplete  it  rapidly. 
Similarly,  the  reserves  should  be  larger  against  fluctuating  deposits 
(as  of  stockbrokers)  or  those  known  to  be  temporary.  The  reserve 
in  a  large  city  of  great  bank  activity  needs  to  be  greater  in  proportion 
to  its  demand  liabilities  than  in  a  small  town  with  infrequent  banking 
transactions. 

Experience  dictates  differently  the  average  size  of  deposit  accounts 
for  different  banks  according  to  the  general  character  and  amount 
of  their  business.  For  every  bank  there  is  a  normal  ratio,  and  hence 
for  a  whole  community  there  is  also  a  normal  ratio — an  average 
of  the  ratios  for  the  different  banks.  No  absolute  numerical  rule 
can  be  given. 

B.     Analysis  of  Bank  Loans 

(i)     INTRODUCTORY 

26.    THE  MANAGEMENT  OF  LOANS 

In  any  business  the  extent  and  character  of  the  assets  owned  in 
relation  to  the  liabilities  is  the  test  of  good  management.  If  the 
accounts  and  bills  receivable  are  certain  to  be  paid  when  due,  and  if 
they  are  ample  to  cover  all  current  liabilities,  the  business  is  regarded 
as  fundamentally  sound.  Commercial  banking  differs  from  other 
businesses  in  this  connection  only  in  the  greater  need  imposed  upon 
it  of  keeping  its  assets  in  a  liquid  form.  If  a  merchant  finds  himself 
unable  to  meet  current  obligations  from  maturing  assets,  he  may 
seek  an  extension  of  time,  but  a  bank  when  called  upon  to  discharge 
its  obligations  must  pay  at  once.  If  it  has  insufficient  funds  for  the 
purpose  there  are  but  two  alternatives  open:  to  secure  a  loan  from 
another  bank  or  to  announce  insolvency.  The  procuring  of  the 
necessary  funds  from  other  bankers  is  often  impossible,  and  it  is 
therefore  of  the  greatest  importance  that  a  bank  manage  its  loans  and 
discounts  in  such  a  way  that  they  may  be  absolutely  relied  upon. 


PRINCIPLES  OF  "COMMERCIAL"  B/VNKING  67 

The  greatest  care  should  be  observed  in  the  granting  of  loans. 
The  security  offered  should  be  such  that  the  bank  has  virtually 
no  doubt  of  the  safety  of  the  loan  and  of  its  prompt  payment.  The 
maturities  of  the  loans  should  be  so  arranged  that  they  will  insure, 
as  nearly  as  may  be,  a  constant  flow  of  funds  to  the  bank,  a  flow 
ordinarily  sufficient  to  meet  the  constant  drain  of  funds  from  the 
bank.  A  correct  policy  in  this  connection  would  endeavor  to  provide 
for  as  many  maturities  as  possible  on  days  or  weeks  that  are  known 
to  be  periods  of  heavy  withdrawals,  and  to  arrange  for  fewer  paj-ments 
when  the  withdrawals  are  known  to  be  light.  It  is  obviously  impos- 
sible to  make  the  flow  of  funds  to  the  bank  exactly  coincide  with  the 
withdrawals — so  that  no  reserve  at  all  would  be  required — but  it 
is  evident  that  the  bank  management  should  strive  for  this  goal. 
The  sounder  and  more  licjuid  the  loans  that  are  made  and  the  more 
scientific  the  arrangement  of  maturities,  the  less  is  the  reserve  required 
in  the  handling  of  a  given  quantity  of  business,  and  in  consequence 
the  greater  margin  of  profit  to  the  bank. 

27.    CLASSIFICATION  OF  LOANS  IN  NATIONAL  BANKS' 

The  ordinary  commercial  bank  has  the  option  of  making  the  fol- 
lowing types  of  loans:  first,  on  notes  secured  by  mere  personal 
responsibiUty ;  secondly,  on  notes  secured  by  real  estate;  thirdly,  on 
commercial  paper  of  the  following  kinds:  (a)  the  single-name  promis- 
sory note,  (b)  indorsed  notes  and  accepted  drafts,  (c)  notes  and  drafts 
accompanied  by  documentary  evidence;  fourthly,  on  notes  secured 
by  collateral. 

These  loans  may  be  further  classified  according  to  whether  they 
are  time  loans — thirty,  sixty,  or  ninety  days,  or  more — or  demand 
loans,  subject  to  immediate  liquidation. 

The  following  table  shows  the  classification  of  loans,  first,  in  all 
national  banks,  and,  secondly,  in  all  national  banks  in  New  York 
City: 

'  Comi)iled  from  reports  of  the  Comptroller  of  the  Currency. 


68 


PRINCIPLES  OF  MONEY  AND  BANKING 


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PRINCIPLES  OF  "COMMERCIAL"  BANKING 


69 


28.    CLASSIFICATION  OF  LOANS  IN  STATE  BANKS,  1909' 
(In  millions  of  dollars) 


Regions 


'A 


O 


rt  S  *< 
O 


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C"5  «J.2 


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—  c-o_ 
t«  a  «;  g 


32 


g 


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o  3 
f  c 


New  York  City 
Minneapolis.  .  . 

Wisconsin 

Southern  states 
United  States.  . 


44 
10 

445 

3,312 

11,292 


2.2 

1.2 

6.6 

14. 1 

134  9 


70.3 
0.2 

3  3 

26.3 

226.8 


71.8 

24 

21 .9 

116. o 

542. o 


431 
0.6 

13  9 

25-4 
2530 


45-8 

I.I 

II. 4 

74.8 

326.2 


7.2 

OS 
20.8 

56.7 
334  9 


(2)     COMMERCIAL  PAPER 

29.    LOANS  ON  COMMERCIAL  PAPER' 
By  ROGER  W.  BABSON  and  RALPH  MAY 

Mercantile  businesses  are  in  almost  constant  need  of  borrowing 
money  for  short  periods  of  time.  They  find  a  call  for  merchandise 
and  a  chance  to  buy  it  for  less  than  they  can  sell  it.  To  fill  all  orders 
they  can  get  they  need  more  money  than  they  have  with  which  to 
buy  this  merchandise.  Such  borrowing  as  this,  to  buy  merchandise 
or  something  similar,  which  is  to  be  turned  into  cash,  presumably 
at  a  profit,  and  within  a  short  time,  is  called  borrowing  through 
commercial  paper.  Commercial  paper  is  the  name  given  the  medium 
for  such  borrowing  and  is  not  properly  applied  to  any  other  form  of 
borrowing.  It  fills  a  lield  of  its  own  and  requires  separate  analysis 
and  study.  It  is  different  from  the  borrowing  of  railroads  and  public 
service  corporations,  even  for  an  equivalent  time.  It  is  ditTcrcnl 
from  the  borrowing  of  an  individual  on  the  most  salable  of  security 
and  with  ample  margin.  It  is  a  method  of  finance  all  its  own,  just 
as  mortgage  Ijonds  arc  in  their  particular  field.  It  is  a  very  important 
factor  in  the  financial  system  of  any  country,  for  as  business  is  the 
attempt  to  turn  available  wealth  into  capital,  and  as  most  business 

'  From  Special  Report  from  the  Banks  of  the  United  States.  (National  Monctar>' 
Commission,  1909.) 

'Commercial  Paper,  pp.  29-37.     (Roger  W.  Babson,  1912.) 


70  PRINCIPLES  OF  MONEY  AND  BANKING 

must  have  to  do  with  the  purchase  and  sale  of  merchandise,  so  com- 
mercial paper  must  play  a  most  important  part,  if  not  the  most  im- 
portant part,  in  financing  the  business  needs  of  a  community  or  nation. 
Commercial  paper  is  one  of  the  biggest  aids  that  we  can  make  use  of 
in  economic  progress,  that  is,  in  the  acquisition  of  true  wealth.  Com- 
mercial paper  is  entirely  as  proper  an  economic  medium  for  borrowing 
and  lending  in  its  own  particular  field  as  are  other  forms  of  security 
in  theirs,  and  when  properly  used  to  do  the  work  for  which  it  is 
intended,  and  no  more,  it  is  exactly  as  safe.  Loans  to  packing-houses 
on  short  time,  or  to  some  large  dry-goods  house,  or  to  a  mill  (if  properly 
issued)  are  examples  of  commercial  paper.  These  loans  are  made  to 
firms  conducting  a  well-known  business  and  for  well-known  needs. 
They  distinctly  belong  with  loans,  the  interest  on  which  is  pure 
interest,  as  there  is  no  exceptional  risk  involved  in  the  loan. 

The  use  of  commercial  paper  as  a  medium  of  finance  is  by  its 
nature  confined  to  the  raising  of  money  with  which  to  buy  stock  in 
some  regular  business  or  to  avoid  selling  that  stock  temporarily. 
In  this  country  much  commercial  paper  is  sold  in  order  to  raise 
money  to  buy  machinery  or  other  fixed  assets.  These  are  no  less 
valuable,  perhaps,  than  the  merchandise  is,  but  there  is  absolutely 
no  hope  of  converting  them  into  cash  within  the  life  of  the  notes,  and  notes 
issued  for  this  purpose  are  7iot  properly  commercial  paper. 

Inasmuch  as  the  proceeds  of  commercial  paper  are  to  go  to  the 
purchase  of  merchandise,  it  follows  that  from  the  nature  of  merchan- 
dise it  cannot  well  be  given  as  collateral.  Commercial  paper  is,  there- 
fore, usually  an  ordinary  promissory  note  without  collateral.  As 
merchandise  must  be  sold  within  the  life  of  the  note  and  as  stock  in 
trade  must  usually  be  exhibited  and  be  in  shape  for  immediate 
deHvery  to  be  sold  to  the  best  advantage,  it  would  be  injurious  not  only 
to  the  borrower  but  to  the  lender  to  require  it  as  collateral. 

30.  KINDS  OF  com:mercial  papers 

By  J.  LAURENCE  LAUGHLIN 

I.  The  single-name  promissory  note. — Suppose  that  A,  who  is 
doing  a  large  business,  has  sold  goods  on  credit  (open  account)  to 
many  customers.  A  may  find  himself  short  of  current  funds  in 
consequence  of  the  absorption  of  his  capital  in  carrying  these  cus- 

'  Adapted  from  Banking  Reform,  pp.  77-81.  (National  Citizens'  League, 
1912.) 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  71 

tomers.  If  he  goes  to  the  bank  for  accommodation,  he  may  request 
a  loan  simply  on  the  strength  of  his  own  personal,  unsecured  note. 
In  this  case  the  wisdom  of  the  bank  in  granting  the  loan  will  depend 
entirely  upon  what  it  knows  of  the  customer.  If  the  total  amount 
which  he  desires  is  moderate  as  compared  with  his  total  assets,  and 
particularly  as  compared  with  his  current  cash  receipts  over  a  specified 
period,  the  loan  is  "safe."  If  it  complies  wholly  with  these  require- 
ments, it  is,  perhaps,  the  safest  purchase  the  bank  can  make,  since 
the  individual  has  total  assets  largely  in  excess  of  the  loan,  while 
he  has  current  incomes  that  supply  the  means  for  prompt  payment. 
Paper  thus  obtained  is  termed  single-name  paper. 

2.  Two-name  paper. — Suppose,  however,  that  A,  mstead  of  selling 
his  goods  on  credit  (open  account),  has  required  his  customers  to 
give  him  their  notes  payable  at  thirty  days.  -He  may  take  these  notes 
to  his  bank  and  ask  for  a  discount,  in  which  case  the  bank  will  desire 
to  know  substantially  the  same  things  as  before.  It  may  or  may  not 
make  a  close  inquiry  into  the  condition  of  the  persons  who  gave  the 
notes  to  the  merchant  that  originally  sold  the  goods.  It  assumes,  of 
course,  that  A  has  investigated  them  with  care.  But  its  real  security 
is  found  in  the  fact  that  it  knows  the  man  who  presents  the  notes  for 
discount,  is  familiar  with  his  business,  and  requires  him  to  indorse 
the  notes  before  getting  accommodation  based  on  them.  This  is 
called  two-name  paper,  and  while  collection  at  maturity  will  first 
be  sought  from  the  person  who  made  the  notes— that  is,  the  person 
who  bought  the  goods  from  the  original  merchant  and  gave  the  latter 
the  notes  in  e.xchange — the  bank  will,  if  payment  is  not  promptly  made, 
require  the  person  who  secured  the  discount  to  make  good  the  sum. 

The  value  of  two-name  paper  as  compared  with  single-name 
paper  is  entirely  relative  and  dependent  upon  circumstances.  If  the 
individual  who  presents  the  notes  for  discount  is  stronger  and  belter 
known  linancially  than  the  makers  of  the  notes,  it  is  probable  that 
his  own  unsecured  note  would  be  quite  as  satisfactory  as  tlie  two- 
name  paper.  If  the  maker  of  the  notes  and  the  man  who  presents 
them  for  discount  are  both  persons  of  small  resources  ami  questionable 
credit,  the  combination  of  liability  furnished  by  the  two-name 
paper  is  not  important  and  does  not  of  itself  make  the  paper  good. 
The  ultimate  test  is  invariably  found  in  the  responsibility  of  those 
whose  names  appear,  and  if  one  of  these  names  represents  unques- 
tioned commercial  solvency,  it  is  far  better  as  a  protection  to  the  bank 
than  several  names  whose  credit  is  doubtful  or  limited. 


72  PRINCIPLES  OF  MONEY  AND  BANKING 

The  kind  of  two-name  paper  which  has  jusL  been  described  is  not 
the  only  one.  In  many  parts  of  the  country  it  is  not  even  the  most 
important.  A,  who  sold  the  goods  to  B,  may,  instead  of  requiring 
B  to  give  him  a  "note"  payable  after  thirty  days,  stipulate,  at  the 
time  when  his  sale  is  made,  that  he  will  simply  "draw"  on  B  "at 
thirty  days'  sight."  That  is  to  say,  simultaneously  with  his  shipment 
of  goods  to  B  he  hands  to  his  bank  a  draft  on  B  which  is  payable 
thirty  days  after  being  presented  to  the  latter.  The  bank  then 
sends  this  draft  to  a  bank  in  the  place  where  B  is  situated,  and  this 
bank  presents  it  to  B,  who,  if  the  transaction  is  carried  out,  "accepts" 
the  draft  by  writing  his  name,  with  the  date,  upon  it  under  the 
word  "accepted."  This  makes  the  draft  an  obligation  on  the  part 
of  B  to  pay  a  specified  sum  at  the  end  of  a  specified  time.  It  is  pri- 
marily an  obligation  of  B's,  but  in  case  he  should  not  pay  it,  any  person 
who  had  acquired  A's  claim  on  B  in  the  meantime  would  look  to  A 
for  payment. 

Now,  if  A  merely  passed  the  draft  to  his  bank  for  collection,  he 
must  wait  thirty  days  in  order  to  get  his  payment,  which  is  then 
reported  to  him  and  placed  to  his  credit  by  the  bank  that  originally 
took  the  draft.  Probably,  however,  A  wants  funds  at  once.  If 
so,  he  has  told  his  bank  at  the  outset  that  he  wishes  to  have  the  draft 
discounted.  In  that  case  the  bank  has  allowed  him  an  immediate 
credit  on  its  books  equal  to  the  face  of  the  draft  less  discount.  It 
then  looks  to  B  for  payment,  thereby  standing  in  the  place  of  A. 
But  in  the  event  that  B  defaults  and  does  not  liquidate  at  the  specified 
time,  A's  bank  will  look  to  A,  the  merchant,  for  reimbursement  of 
the  amount  which  it  originally  advanced  him  on  the  strength  of  his 
application  for  a  discount  accompanied  by  the  draft  on  B.  It  is, 
in  short,  protected  by  two  names.  Paper  of  this  kind  is  regarded 
with  peculiar  favor  by  banks,  because  it  grows  out  of  a  live  commercial 
transaction;  and,  where  the  operation  is  legitimate,  there  is  every 
reason  to  suppose  that  B  will  liquidate  at  maturity,  while  in  case  he 
does  not,  the  bank  can  fall  back  upon  an  individual  in  its  own  city 
about  whom  it  has  full  information.  It  may  make  the  discount  with 
confidence  if  it  is  absolutely  assured  of  the  solvency  and  honesty 
of  either  A  or  B,  the  transaction  itself  being  good  evidence  that  there 
is  real  value  in  existence  to  back  up  the  transaction. 

3.  Paper  accompanied  by  documentary  evidence. — If  the  bank 
wishes  to  be  exceedingly  well  protected,  it  may  demand  that  A,  who 
discounts  the  draft  with  it,  shall  turn  over  to  it,  along  with  the  draft 


PRINCIPLES  OF  "COMMERCIAL"  HAXKIXG  75 

itself,  the  documents  which  give  control  of  the  property  which  has 
been  sold,  so  long  as  the  same  is  in  transit.  These  documents  may  be 
of  several  kinds  and  more  or  less  numerous.  'J'he  commonest  is  the 
ordinary  "bill  of  lading,"  issued  by  the  common  carrier  who  has 
accepted  the  goods.  It  indicates  that  the  ultimate  power  of  demand- 
ing the  goods  from  the  carrier  has  been  surrendered  by  the  shipper 
and  is  now  in  the  hands  of  the  bank  which  has  discounted  the  draft. 
The  bank  may  send  this  bill  of  lading,  along  with  the  draft,  to  its 
correspondent  bank  in  the  place  where  B  lives,  and  may  decline  to 
give  up  the  title  to  the  property  until  such  time  as  B  liquidates  the 
draft.  Or  it  may  assent  to  the  surrender  of  the  property  under 
conditions  which  are  satisfactory  to  itself.  In  this  case  the  use  of 
the  documents  serves  to  locate  the  responsibility  for  releasing  the 
ultimate  property  on  which  the  transaction  is  based — the  goods  that 
passed  from  A  to  B  in  the  original  transaction. 

Besides  the  bill  of  lading  thus  referred  to  there  may  be  certificates 
of  insurance,  and,  in  the  case  of  foreign  shipments,  master's  receipts, 
the  proper  consular  invoices,  health  certificates  in  the  case  of  food- 
stuffs, etc.  The  aim  in  transferring  these  documents  is  to  show  that 
all  the  requirements  of  a  bona  fide  sale  have  been  complied  with,  and 
that  the  way  has  been  completely  cleared  for  putting  the  goods 
en  route  to  the  consumer  via  the  ultimate  dealer,  while  all  risks  in 
connection  with  the  process  have  been  transferred  to  others  who  are 
prepared  to  assume  such  risks.  This  is  a  way  of  giving  the  bank 
additional  assurance  that  everything  is  right,  and  that  it  has  nothing 
to  apprehend  from  legal  or  other  obstacles.  It  then  assumes  only 
the  legitimate  risks  which  it  was  organized  to  incur — those  connccteii 
with  the  transfer  of  property  from  man  to  man,  and  the  collection  of 
the  proceeds  of  sales,  either  at  sight  or  after  the  lapse  of  a  specified 
period. 

31.    DURATION  OF  COMMERCIAL  PAPER* 
By  ROGER  VV.  BABSON  and  RALPH  MAY 

From  a  study  of  general  business  we  may  take  a  year  as  the  long- 
est time  that  commercial  paper  may  be  allowed  to  run.  Only  the 
very  strongest  borrowers,  however — those  who  by  the  nature  of  their 
business  and  a  past  history  of  successful  operation  show  especial 
strength — should  be  allowed  by  lenders  to  make  their  commercial 

'  Cotnmercial  Paper,  pp.  40-43.     (Roger  W.  liubson,  191 2.) 


74  PRINCIPLES  OF  MONEY  AND  BANKING 

paper  for  as  long  a  term  as  a  year.  The  best  mills,  such  as  successful 
cotton  mills,  whose  paper  is  endorsed  by  selling  houses  in  the  best 
of  repute,  are  examples  of  such  business.  Occasionally,  because  of 
attractive  rates,  bankers  who  see  by  their  study  of  fundamental 
business  conditions  that  rates  will  probably  decline  lend  strong 
mercantile  companies  or  firms  for  so  long  a  period  as  a  year,  and  do 
so  with  authority,  not  because  it  will  take  so  long  a  period  as  a  year 
to  sell  the  goods  bought,  but  because  the  lender  is  sure  that  when  the 
first  lot  of  merchandise  is  sold  the  proceeds  will  be  used  to  buy  more 
merchandise,  the  result  being  the  same  as  if  the  lender  had  renewed 
once  or  more  an  original  borrowing.  Conversely,  borrowers  who 
study  fundamental  conditions  are  justified  in  borrowing  year  money 
when  statistics  show  clearly  that  rates  will  advance.  The  practice 
of  allowing  credit  through  commercial  paper  on  merchandise  which 
will  undoubtedly  be  sold  long  before  the  paper  matures  is,  however,  a 
dangerous  practice,  especially  for  those  who  are  not  fully  familiar 
with  fundamental  business  conditions  and  all  changes  which  occur 
from  week  to  week.  For  such  it  is  better  for  both  the  lender  and  the 
borrower  to  start  anew  with  each  individual  transaction. 

Most  commercial  paper  should  mature  within  six  months,  much 
within  four  months,  much  within  ninety  days.  With  any  proper 
operation  of  commercial  paper  as  a  medium  of  finance,  the  time  the 
paper  has  to  run  will  decrease  with  sixty  to  ninety  days  as  its  limit. 
Foreign  countries,  older  communities  than  this,  rarely  have  commer- 
cial bills  for  sLx  months'  time.  Six  months  should  be  taken  in  general 
as  the  maximum  time  commercial  paper  shall  be  allowed  to  run, 
the  varying  maturities  allowed  being  governed  by  the  convertibility 
of  the  merchandise  back  of  them  and  the  foresight  of  the  principals 
involved.  Packing -house  paper,  which  is  presumably  secured  by 
merchandise  which  has  as  ready  a  sale  as  almost  anything,  is  especially 
safe  and  may  be  taken  with  safety  for  the  full  time  if  the  makers 
desire  a  sLx  months'  maturity.  Commission  merchants,  such  as 
those  dealing  in  cotton  cloth  and  seUing  for  mills,  or  houses  selling 
groceries  and  like  goods,  for  which  there  is  a  constant  demand,  should 
also,  if  they  wish,  be  allowed  six  months'  time. 

Paper  of  manufacturers,  say  of  a  special  form  of  shoe,  the  value 
of  which  is  quick  to  change  with  fashion  and  the  sale  of  which  ought 
to  be  arranged  for  practically  before  the  paper  to  cover  the  merchan- 
dise is  put  out,  should  not  be  made  for  over  five  months.  Care  should 
be  taken,  too,  that  a  firm  manufacturing  a  specialty  does  not  renew 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  75 

its  paper  except  under  exceptional  circumstances.  Such  renewals, 
if  in  any  quantity,  should  be  taken  as  a  danger  sign  at  once.  Makers 
of  heavy  machinery  may  or  may  not  be  given  credit  for  so  long  as 
six  months  with  safety.  Usually,  in  the  case  of  such  borrowers,  most 
of  the  machinery  made  is  contracted  for.  If  a  customer  is  not  ready 
to  fill  his  contract  immediately  and  yet  is  good,  it  is  perfectly  proper 
that  the  manufacturer  should  be  given  credit  to  carry  his  merchandise; 
but  care  should  be  taken  that  such  credit  is  based  on  a  firm  basis. 
The  trade  accounts  of  the  manufacturers  of  heavy  machinery  and  the 
like,  who  make  their  paper  regularly  for  the.  longest  possible  period, 
should  be  examined  with  especial  care. 


32.    CONFUSION  OF  COMiMERCIAL  AND  INVESTMENT 

LO.\KS' 

By  WILLIAM  A.  SCOTT 

It  is  possible,  indeed  very  easy,  for  a  bank  to  confuse  commercial 
and  investment  loans.  This  confusion  is  most  readily  accomplished 
by  the  exchange  of  investment  securities  for  checking  accounts.  Thus 
a  commercial  bank  may  treat  bonds,  mortgages,  or  the  personal  notes 
of  its  customers  indefinitely  renewed  and  discounted  for  investment 
purposes  in  the  same  manner  that  it  treats  genuine  commercial  paper. 
The  bank  creates  for  itself  a  demand  obligation,  just  as  in  the  case 
of  a  loan  on  commercial  paper,  but  without  any  assurance  that  the 
funds  loaned  will  be  devoted  to  uses  which  will  provide  for  an  early 
liquidation  of  the  loans. 

There  are  several  reasons  which  account  for  the  prevalence  of 
this  confusion  in  commercial  banks.  The  fact  that  circulating  notes 
supposed  to  be  adequately  protected  by  government  bonds  are  put 
into  the  hands  of  national  bankers  and  are  regarded  both  by  them 
and  by  the  general  pubUc  as  money  which,  under  ordinary  circum- 
stances, will  not  need  to  be  redeemed,  tempts  the  banks  to  exchange 
them  for  investment  securities,  or  at  least  obscures  the  harm  of  such 
a  procedure. 

The  laws  pertaining  to  our  state  banks  also  encourage  the  confu- 
sion of  these  two  departments  of  banking.  Some  of  these  laws  place 
no  limit  whatever  upon  the  amount  of  investment  such  banks  may 

'Adapted  from  "Investment  vs.  Commercial  Banking,"  Proceedings  of  the 
Second  Annual  Convention  of  the  Investment  Bankers'  Association  of  America,  1913, 
pp. 81-84. 


70  PRINCIPLES  OF  MONEY  AND  BANKING 

make  in  real  estate  and  mortgage  securities,  and  in  other  cases  the 
limits  prescribed  for  such  investments  do  not  depend  in  any  respect 
upon  the  capital,  surplus,  and  savings  funds  which  they  possess. 
Indeed,  in  country  towns  these  banks  are  encouraged  to  loan  their 
funds  to  farmers  on  mortgage  security  and  for  the  purpose  of  assisting 
them,  not  in  the  transfer  of  their  crops  to  consumers,  or  in  the  trans- 
formation of  seed  into  crops,  but  for  the  purchase  of  their  lands,  the 
construction  of  their  buildings,  the  equipment  of  their  farms  with 
drainage,  irrigation  works,  cattle,  machinery,  etc.  Thus  they  are 
tempted,  and  in  some  cases  almost  forced,  to  transform  investment 
securities  into  checking  accounts. 

Our  reserve  system  contributes  to  the  same  end.  It  compels 
our  banks  to  keep  locked  up  in  their  vaults  in  cash  a  certain  percent- 
age of  their  deposit  liabilities.  A  larger  percentage  is  usually  kept 
on  deposit  with  banks  in  reserve  cities,  and  since  they  must  be  held 
subject  to  call,  these  funds  flow  to  New  York  City,  where  they  are 
invested  on  call  loans  on  the  New  York  Stock  Exchange.  The  fact 
that  under  ordinary  circumstances  the  loans  of  a  broker  when  called 
can  be  transferred  from  one  bank  to  another,  and  that  the  securities 
deposited  as  collateral  can  be  readily  sold  upon  the  stock  exchange, 
has  created  the  impression  that  these  loans  are  really  liquid.  As  a 
matter  of  fact  they  are  not  liquid  in  any  proper  sense  of  the  term. 
The  sale  of  a  bond  or  of  a  certificate  of  stock  on  the  New  York  Stock 
Exchange  is  not  Hquidation.  It  is  merely  a  transfer  of  obligations 
from  one  person  to  another,  and  if  the  pressure  for  realization  upon 
call  loans  is  great,  these  transfers  cannot  be  made  in  the  ordinary 
manner,  and  crisis  ensues. 

The  third  part  of  our  reserves  takes  the  form  of  high-class  bonds 
listed  upon  the  exchanges.  Banks  call  these  their  secondary  reserves 
and  ordinarily  feel  quite  safe  when  they  have  large  quantities  of  them 
in  their  vaults.  In  this  case  also  they  are  deceived  by  the  fact  that 
ordinarily,  when  everything  is  running  smoothly,  such  bonds  can  be 
turned  into  cash,  and  they  are  accustomed  to  call  these  securities 
liquid  on  that  account,  but  they  are  no  more  liquid  than  are  the  call 
loans  based  upon  them,  and  pressure  to  realize  on  this  portion  of  our 
reserves,  if  it  be  great,  is  forced  liquidation,  and  in  extreme  cases  also 
results  in  crises. 

So  far  as  the  danger  of  confusing  commercial  and  investment  loans 
is  concerned,  in  many  respects  the  worst  of  our  banking  practices  still 
remains  for  discussion.     I  refer  to  the  basis  on  which  lines  of  credit 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  77 

for  ordinary  bank  customers  are  established  and  administered.  It 
is  customary  for  a  business  man  to  arrange  with  his  banker  for  such 
a  line,  and  too  often  in  determining  how  much  it  shall  be  the  bank 
takes  into  consideration  the  man's  total  possessions  rather  than  the 
volume  of  commerce  which  he  transacts.  The  Une  once  determined, 
the  customer  expects  that  the  bank  will  carry  him  for  that  amount 
and  usually  resents  too  close  inquiry  into  the  way  in  which  he  employs 
borrowed  funds.  Though  the  banker  usually  insists  that  his  cus- 
tomer's paper  shall  be  drawn  for  short  periods  of  lime,  both  expect 
that  this  paper  will  be  renewed  at  maturity.  Indeed  both  the  cus- 
tomer and  the  banker  are  apt  to  regard  the  amount  fixed  in  the  line 
of  credit  as  a  part  of  the  former's  permanent  working  capital.  The 
practice  of  demanding  carefully  drawn  statements  of  a  customer's 
business  is  fortunately  growing,  but  it  is  still  very  far  from  common. 
The  correct  interpretation  of  these  statements  when  they  are  drawn 
is  even  less  common. 

On  account  of  this  practice  a  banker  rarely  knows  to  what  extent 
the  paper  in  his  portfolios  represents  commercial  and  to  what  extent 
investment  processes.  Until  the  test  of  forced  liquidation  actually 
comes,  he  does  not  know  how  large  a  percentage  of  his  resources  are 
really  liquid.  Under  these  circumstances  it  is  not  surprising  that  the 
line  between  investment  and  commercial  loans  is  frequently  crossed.' 

33.  THE  CREDIT  DEPARTMENT  OF  A  BANK 

The  credit  department  of  a  bank  is  a  development  of  the  past 
twenty-five  years.  Today  practically  all  of  our  large  city  banks  ha\c 
such  a  department,  though  in  the  country  as  a  rule  the  work  is  not 
yet  differentiated.  The  functions  of  a  credit  department  consist 
of  a  systematic  and  judicious  collection  of  data  respecting  the  financial 
responsibility,  character,  antecedents,  and  business  qualifications  and 
abilities  of  the  bank's  customers,  the  classification  of  the  data  on  each 
customer  in  chronological  order,  and  their  systematic  preservation 
for  future  reference  and  comparison.  A  well-arranged  file  will  dis- 
close at  a  glance  the  entire  career  and  present  business  standing  of 
any  customer. 

The  principal  sources  of  credit  information  are  as  follows:  (i) 
signed  property  statement  from  the  borrower;  (2)  reports  from  com- 
petitors of  the  ])orrower;   (3)  reports  from  the  trade,  that  is,  from  his 

'Compare  cliap.  xi,  sec.  i. — Editor. 


78  PRINCIPLES  OF  MONEY  AND  BANKING 

mercantile  creditors;  (4)  reports  from  banks  with  whom  he  has 
dealt;  (5)  reports  from  commercial  agencies;  (6)  reports  from  other 
departments  of  the  bank  that  may  have  come  in  contact  with  him; 
(7)  general  "gossip"  of  the  community. 

The  most  important  of  these  sources  of  information  is  by  all  odds 
the  financial  statement.  It  is  an  itemized  exhibit  of  the  resources  and 
liabilities  of  the  customer,  usually  at  date  of  last  inventory.  A  care- 
ful analysis  of  a  statement  will  show  the  amount  of  cash  that  could 
be  realized  from  the  business  if  it  were  suddenly  Uquidated  and  its 
assets  thrown  on  the  market.  Some  of  the  largest  banks  now  sup- 
plement this  statement  by  an  investigation  of  the  factory  or  store 
conducted  by  the  borrower.  Expert  appraisers  and  engineers  are 
sometimes  employed  for  the  purpose. 

Dun's  and  Bradstreet's  reports  furnish  a  great  amount  of  valuable 
historical  data  as  well  as  collateral  evidence  bearing  on  the  present 
status  of  the  borrower.  They  collect  information  with  reference  to 
business  houses  and  give  them  a  "rating"  in  their  reports.  They 
aim  to  cover  the  entire  field  and  include  every  individual  business 
man,  but  with  new  enterprises  and  even  new  cities  springing  up  daily 
it  is  impossible  in  practice  for  them  to  furnish  recent  information  on 
all  mercantile  concerns.  A  serious  handicap  to  reliable  information 
lies  in  the  fact  that  the  agency  reporters  are  not  always  treated  with 
the  greatest  freedom  and  confidence.  Moreover,  the  reporters  are 
poorly  paid,  and  hence  many  of  them  are  poorly  qualified  for  the  work 
in  hand.  There  is  also,  in  many  instances,  an  evident  desire  on  the 
part  of  the  firms  concerned  to  strengthen  their  "rating"  by  deliberate 
deception.  Nevertheless,  the  service  performed  by  the  agency  reports 
is  an  invaluable  aid. 

The  remaining  information  is  obtained  by  correspondence  and 
interviews,  and  it  usually  furnishes  much  collateral  evidence  on  the 
financial  and  moral  responsibihty  of  the  borrower. 

It  is  not  a  function  of  the  credit  department  of  a  bank,  how- 
ever, to  analyze  the  information  collected  and  pass  judgment  upon 
the  loan.  It  merely  supplies  the  information  to  the  loan  officers 
of  the  bank,  who  render  the  decision  and  assume  all  responsibility 
for  the  loan. 

34.    A  FINANCIAL  STATEMENT 

The  following  is  a  form  of  financial  statement  recommended 
by  the  American  Bankers'  Association.    The  statement  proper  is 


PRINCIPLES  OF  "COMMERCL\L"  BANKING  79 

followed   by  a  long   list  of   questions  as   to   the  character  of  the 
individual  items. 

Assets  Liabilities 

Cash  Notes  payable 

Bills  receivable  (net)  Accounts  payable 

Accounts  receivable  (net)  Deposits 

Merchandise  Bonded  debt 

Land  ^lortgages 

Buildings  Accrued  Uabihties 

Machinery — ^fixtures  Total 

Capital 

Surplus — profits 

Reserves 
Total  Total 

35.    COMMERCIAL  PAPER  HOUSES  AND  NOTE  BROKERS 

The  business  of  note  brokerage  arose  in  response  to  a  very  definite 
economic  need.  Banks  in  a  given  community  frequently  find  that 
they  cannot  fully  utilize  their  resources  there,  and  wish  in  consequence 
to  make  loans  in  a  wider  market.  Similarly,  it  frequentlv  happens 
that  borrowers  in  a  given  community  are  unable  to  procure  adequate 
accommodations  for  the  reason  that  the  banks  there  have  already 
made  loans  to  their  full  capacity;  in  consequence  borrowers  often 
wish  to  procure  funds  in  a  wider  market.  The  opportunitv  thus 
afforded  in  bringing  together  the  banks  and  borrowers  of  different 
localities  has  given  rise  to  a  distinct  type  of  financial  middleman. 
A  remunerative  business  was  early  developed  by  individuals  in  taking 
notes  of  merchants  in  one  town  and  selling  them  on  a  commission 
basis  to  banks  in  another  town.  This  business  has  become  so  impor- 
tant today,  however,  that  in  place  of  the  individual  note  broker  we 
now  usually  find  the  commercial-paper  house,  an  institution  quite 
as  important  in  the  financial  world  as  the  banks  themselves.  Some 
of  these  houses  purchase  and  sell  commercial  paper  amounting  to 
hundreds  of  millions  of  dollars  annually.  Their  operations  are  nation- 
wide in  extent;  they  sell  the  paper  of  New  England  dealers  to 
banks  in  California,  and  that  of  merchants  in  Portland  and  Seattle 
to  the  bankers  of  Chicago  and  New  York.  The  commercial-paper 
broker  thus  serves  the  important  economic  function  of  adjusting  or 
equilibrating  the  demand  and  supply  of  loanaJjle  funds. 

The  commercial-paper  house  may  cither  buy  the  paper  outright 
and  then  sell  it  to  the  bank,  or  it  may  merely  offer  the  paper  for  s;ile 


8o  PRINCIPLES  OF  MONEY  AND  BANKING 

with  the  knowledge  that  it  can  be  obtained  on  request.  The  former 
method  is  usual  nowadays  among  the  larger  houses.  In  either  case, 
however,  the  brokerage  house  is  a  mere  middleman,  for  it  is  not  a 
part  of  its  business  to  loan  funds;  it  always  buys  to  sell  on  a  commis- 
sion basis.  It  may  be  added  that  the  house  guarantees  the  genuine- 
ness of  the  signatures  to  the  paper,  though  it  does  not  indorse  the 
paper  and  thereby  assume  a  secondary  liability. 

Where  the  commercial-paper  house  buys  the  paper  outright  there 
is  much  more  likelihood  that  the  broker  will  investigate  the  financial 
standing  and  general  character  of  the  borrower  than  if  he  merely 
secures  the  paper  upon  request,  for  he  may  find  himself  unable  to 
sell  the  paper.  This  is  regarded  by  many  as  an  important  considera- 
tion, for  the  banker  is  at  a  disadvantage  in  investigating  business 
firms  at  long  range.  With  a  local  customer  the  bank  as  a  rule  deals 
with  persons  who  have  been  known  to  it  for  many  years  and  whose 
business  standing  is  a  matter  of  record  in  the  files  of  the  credit  depart- 
ment. But  in  the  case  of  paper  bought  in  the  open  market,  unless 
the  name  of  the  borrower  is  particularly  well  known,  the  bank  has 
to  deal  in  the  main  with  an  abstract  proposition  in  the  form  of  the 
borrower's  statement.  The  commercial-paper  house,  through  its 
investigation,  may  therefore  serve  as  an  additional  check  on  credit 
on  the  principle  that  two  investigations  are  better  than  one.  There 
is  a  possible  danger  here,  however,  in  that  each  investigation  may  be 
less  rigid  than  would  be  the  case  if  the  responsibility  were  not  divided. 

Where  the  paper  is  of  an  unknown  name,  it  is  the  usual  custom 
for  the  bank  to  buy  the  paper  on  an  option  of  seven  or  ten  days, 
during  which  time  it  may  make  an  adequate  investigation  of  the  firm 
or  corporation  offering  the  paper.  Such  an  investigation  must  be 
conducted  chiefly  by  means  of  letters  of  inquiry  to  the  banks  and  busi- 
ness men  in  the  town  where  the  borrower  is  located,  to  those  in  the 
trade  who  have  sold  goods  to  the  party  in  question,  and  to  bankers 
in  great  commercial  and  industrial  centers  where  the  paper  is  likely 
to  be  placed  on  the  market.  If  the  paper  is  not  acceptable  after  investi- 
gation, it  is  returned  to  the  commercial-paper  broker,  the  bank  of 
course  keeping  the  interest  earned  while  the  paper  was  in  its  possession. 

The  term  "commercial  paper"  as  used  in  the  financial  world 
often  refers,  not  to  all  paper  arising  out  of  commercial  transactions, 
but  only  to  paper  that  is  handled  by  the  commercial-paper  houses. 
Such  paper  has  its  own  special  quoted  rate,  which  often  varies  materi- 
ally from  the  rate  on  direct  loans  of  banks  to  their  customers. 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  8 1 

(3)     COLLATERAL 
36.    LOANS  ON  COLLATERAL 

Loans  that  are  contracted  for  the  purpose  of  investing  in  fixed 
capital,  or  in  any  way  that  does  not  give  rise  to  funds  for  the  payment 
of  the  loan  at  an  early  maturity,  must  be  classed  as  investment 
rather  than  commercial  loans.  Such  short-time  loans  may  be  per- 
fectly safe  if  the  bank  is  not  required  to  pay  on  demand,  but  it  is 
clear  that  a  bank  cannot  meet  demand  liabilities  with  assets  whose 
maturities  depend  upon  the  more  or  less  remote  incomes  to  be  derived 
from  investments  in  fixed  capital.  In  a  similar  way  loans  granted  to 
individuals  for  personal  consumption  or  non-commerce,  or  to  be  used 
in  speculative  enterprises,  are  unsafe  for  a  commercial  bank  whose 
liabilities  are  demand  liabilities.  Unless  borrowed  funds  are  used  in 
the  manufacture  or  marketing  of  goods,  there  is  not  a  reasonable 
assurance  that  the  loans  will  be  paid  at  maturity.  Accordingly,  non- 
commercial loans  are  usually  made  on  collateral;  that  is,  the  borrower 
pledges  with  the  bank  as  security  some  valuable  claim  to  wealUi, 
such  as  bonds,  stocks,  or  warehouse  receipts.  In  case,  then,  that 
the  loan  is  not  paid  at  maturity,  the  bank  can  sell  the  security  thus 
pledged  and  thereby  keep  itself  in  funds.  In  the  event  that  the  loan 
is  paid,  the  collateral  is  returned  to  the  borrower.  This  sort  of  loan, 
when  properly  safeguarded,  is  in  normal  times  quite  as  liquid  as 
commercial-paper  loans.  The  nature  and  types  of  collateral  may  be 
indicated  by  reference  to  a  few  typical  cases. 

A  bond  or  brokerage  house  is  a  concern  which  deals  in  invest- 
ments or  securities,  and  has  nothing  to  do  with  tlie  marketing  of  goods. 
It  would  be  dangerous  for  a  bank  to  loan  to  such  a  concern  without 
collateral  security.  But  such  a  house  owns  blocks  of  securities, 
stocks  and  bonds,  which  have  a  definite  market  value  and  which  can 
be  hypothecated  with  the  bank  as  security  for  a  loan. 

A  brewer  has  his  capital  invested  in  the  manufacture  of  products 
which  will  be  consumed  only  after  an  interval  of  several  years,  often 
from  four  to  eight  years  after  they  are  manufactured.  These  goods 
are  stored  in  government  bonded  warehouses  and  negotiable  receipts 
are  issued  by  tlie  warehouses  to  the  owners  of  the  goods.  These 
receipts  can  be  used  as  security  for  a  loan  at  a  bank  in  the  same  manner 
as  stocks  and  bonds. 

Spring  eggs  are  placed  in  cold  storage  and  negotiable  receipts 
are  issued  by  the  warehouse.    The  eggs  are  covered  by  fire  insurance 


82 .  PRINCIPLES  OF  MONEY  AND  BANKING 

and  arc  safeguarded  by  such  means  as  the  cold  storage  affords.  The 
possibility  of  wide  fluctuations  in  value  render  them  undesirable 
security  for  commercial  loans,  but  the  warehouse  receipts,  with  a 
proper  margin,  can  be  safely  used  as  collateral  for  a  loan. 

Grain  is  stored  in  grain  elevators  under  the  supervision  of  the 
government.  In  Illinois,  for  instance,  there  is  a  State  Warehouse 
Commission  under  whose  supervision  warehouse  receipts  are  issued 
certifying  that  the  wheat,  corn,  or  oats  is  all  of  a  certain  grade.  These 
receipts  are  insured  against  theft  or  loss  by  fire,  and  they  pass  current 
almost  as  money  does.  They  are,  therefore",  well  adapted  to  serve 
as  security  for  loans  at  a  bank,  and  are  among  the  most  conmion  forms 
of  collateral  security. 

It  is  not  safe  for  banks  to  make  loans  to  the  full  present  market 
value  of  such  securities.  They  may  fluctuate  widely  in  value  during 
the  life  of  the  loan  and  prove  inadequate  in  case  of  forced  sale  to  cover 
the  amount  of  the  loan.  It  is  necessary,  therefore,  to  require  a  margin, 
an  excess  of  valuable  securities  over  the  amount  of  the  loan.  This 
excess  is,  of  course,  returned  to  the  borrower  after  the  loan  has  been 
paid. 

The  amount  of  margin  required  will  vary  in  proportion  to  the 
chance  of  sudden  shrinkage  in  the  salable  value  of  the  collateral. 
In  the  case  of  the  best  bonds  ten  per  cent  is  usually  regarded  as  a 
safe  margin.  Twenty  per  cent  is  usually  required  in  the  case  of  the 
best  active  listed  stocks.  On  less  active  or  more  speculative  stocks, 
and  in  common  stock,  a  much  larger  margin  is  necessary  for  safety. 
Mixed  collateral  is  obviously  better  than  that  of  a  single  class  of 
bonds  or  stocks.  In  the  case  of  collateral,  marketabiUty  is  even 
more  important  than  steadiness  of  value  or  ultimate  safety.  Collat- 
eral is  not  regarded  as  an  investment.  It  is  merely  a  protection  for 
the  investments  in  the  form  of  loans,  hence  ready  salabiUty  is  of  first 
importance.  It  is  for  this  reason  that  collateral  that  is  regularly 
quoted  and  dealt  in  on  the  exchanges  is  much  more  acceptable 
than  non-listed  securities.  "The  fact  that  a  security  is  hsted  on 
a  stock  exchange,  however,  even  the  New  York  Stock  Exchange, 
is  not  in  itself  evidence  to  warrant  its  being  accepted  as  the  best 
of  collateral,  any  more  than  the  fact  that  a  security  is  not  listed 
should  preclude  it  from  acceptance  as  collateral."  Investigation 
of  the  conditions  surrounding  the  given  security  is  necessary  in  either 
case. 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  83 

37-    THE  CAUSE  OF  THE  DEVELOPMENT  OF  COLLATER.\L 
LOANS  m  THE  UNITED  STATES' 

By  EARLE  p.  carman 

National  banks  are  fundamentally  commercial  banks.  Their 
operations  are  restricted  by  law  almost  entirely  to  transactions 
involving  short-term  credits,  which  Congress  assumed  would  consist 
mainly  of  commercial  credits.  The  National  Bank  Act  attempted 
to  make  such  credits  feasible  by  requiring  the  banks  to  keep  a  mini- 
mum cash  reserve  equal  to  a  certain  percentage  of  their  deposit 
liabilities.  It  was  assumed  that  this  cash  reserve  would  enable  the 
banks  to  meet  the  unusual  and  extraordinary  demands  of  depositors, 
and  that  their  remaining  funds  could  be  employed  in  commercial 
credits  by  arranging  their  loans  in  such  manner  that  they  would 
mature  in  rotation,  and  thus  maintain  at  an  average  level  the  funds 
required  to  meet  the  usual  and  ordinary  demands  of  depositors. 

In  all  countries  commercial  credits  have  always  been  preferred 
by  banks  of  discount  and  deposit  because  of  the  fact  that  they  auto- 
matically provide  the  means  for  their  own  liquidation  under  ordinary 
circumstances.  In  other  words,  the  mere  granting  of  the  loan  places 
the  borrower  in  possession  of  property  through  the  sale  of  which  he 
will  be  able  to  pay  the  loan  at  maturity.  And  banking  experience 
for  more  than  a  century  has  demonstrated  that  pure  commercial 
loans  are  the  safest  of  all  temporary  investments.  Commercial  loans, 
however,  are  usually  made  for  periods  of  thirty,  sixty,  or  ninety 
days,  while  the  larger  part  of  commercial  bank  deposits  are  pavable 
on  demand.  Now  it  is  obvious  that  a  bank  cannot  safely  loan  for 
fixed  periods  of  time  any  large  percentage  of  funds  which  it  may  be 
called  upon  to  pay  out  instantly  unless  it  has  some  means  of  convert- 
ing such  loans  into  cash  before  maturity,  if  necessary. 

For  a  century  or  more  commercial  loans  in  the  leading  countries 
of  Europe  have  been  instantly  convertible  into  cash  by  reason  of  the 
fact  that  they  could  be  rediscounted  at  the  central  banks  of  the 
countries  where  they  originated.  This  instant  convertibility  of  com- 
mercial credits,  added  to  their  inherent  safety,  caused  them  to  be 
favored  with  a  lower  rate  of  interest  than  any  other  short-term  credit. 
Thus  in  European  countries  commercial  loans,  or  "discounts,"  as 

'Adapted  from  "The  Change  in  Credit  Methods  Made  Necessary  by  the 
Federal  Reserve  Act,"  Commercial  and  Financial  Chronicle,  1915,  |)p.  1396-97. 


84  PRINCIPLES  OF  MONEY  AND  BANKING 

they  are  called,  are  made  at  a  rate  of  interest  usually  i  per  cent  lower 
than  collateral  loans,  however  choice  the  collateral  pledged  as  security. 
In  America,  however,  prior  to  the  passage  of  the  Federal  Reserve 
Act,  no  means  existed  for  rediscounting  commercial  paper,  and  it 
could  only  be  converted  into  cash  when  it  matured.  The  necessity 
of  loaning  a  large  percentage  of  demand  deposits  in  such  manner  that 
they  could  be  instantly  converted  into  cash  was  no  less  imperative 
here  than  in  Europe,  and  it  compelled  American  bankers  to  relegate 
commercial  credits  to  a  secondary  position  and  devise  a  means  of 
making  loans  which  could  be  converted  into  cash  whenever  desired. 
Consequently,  demand  loans  secured  by  collateral  which  could  be 
sold  in  the  open  market  became  the  favorite  method  of  investing 
demand  deposits,  and  clearly  the  most  logical  method  under  the 
circumstances.  This  preference  for  collateral  loans  encouraged  the 
creation  of  collateral  which  could  be  pledged  to  secure  such  loans. 
This  collateral,  however,  consisting  of  stocks  and  bonds,  is  the  product 
of  investment  banking  and  represents  fixed  or  permanent  property. 
The  loans  made  against  it,  therefore,  are  in  no  sense  commercial. 
The  stock  exchanges  furnished  constant  market  quotations  for  such 
collateral  and  provided  a  means  of  selling  it  instantly  should  the 
banks  desire  to  do  so.  Naturally,  under  such  circumstances,  collat- 
eral loans  could  be  secured  with  the  greatest  ease,  and  this  encouraged 
speculation  on  the  stock  exchanges.  Whenever  this  speculation 
expanded  sufficiently  to  absorb  the  demand  money  readily  avail- 
able, the  interest  rate  for  such  money  advanced,  and  whenever 
this  interest  rate  rose  above  the  legal  rate  for  commercial  paper  it 
naturally  drew  into  the  demand,  or  "call,"  money  market  funds  which 
otherwise  would  have  been  available  for  commercial  credits.^ 

38.    CALL  LOANS 

Call  loans  are  loans  that  are  terminable  at  the  demand  of  either 
the  borrower  or  the  bank.  If  the  borrower  washes  to  repay  the  loan 
he  has  the  privilege  of  doing  so  without  waiting  for  a  maturity  date. 
If  the  bank  wishes  to  enlarge  its  cash  reserve  it  may  demand  immediate 
payment  of  its  call  loans.  In  practice,  "on  demand"  means  sub- 
ject to  call  the  next  day,  and  call  loans  always  run  at  least  one  day. 
There  is  a  rule,  also,  that  loans  cannot  be  called  or  paid  after 
1:00  P.M.,  unless  notice  has  been  given  before  that  hour. 

'Compare  chap,  xi,  sec.  i. — Editor. 


PRI^XIPLES  OF  "COMMERCIAL"  BANKING  ^  r 

The  rates  on  call  loans  are  subject  to  very  wide  fluctuations. 
Ordinaril)-  they  are  lower  than  any  other  rates,  ranging  from  i  to 
2  or  2^  per  cent,  but  on  a  few  occasions  they  have  gone  beyond 
IOC  per  cent.  The  call  rate  rose  to  127  per  cent  on  October  29,  1S96; 
to  96  per  cent  on  November  2,  1S96;  to  186  per  cent  on  December  iS, 
1899;  to  75  per  cent  on  May  9,  1901 ;  to  125  per  cent  on  December  28, 
1905;  in  1906  to  60  per  cent  on  January  2;  to  30  per  cent  on  April 
5  and  6;  to  40  per  cent  on  September  5,  and  to  45  per  cent  on  Decem- 
ber 31. 

These  high  rates  occur  at  times  when  a  dearth  of  loanable  funds 
in  New  York  coincides  with  both  a  heavy  commercial  demand  and  a 
great  financial  demand  for  credit.  A  flurry  on  the  stock  exchange 
will  often  give  rise  to  the  most  insistent  demand  for  funds  for  a  short 
time. 

High  call-loan  rates  are  often  pointed  to  as  evidence  of  a  monopo- 
listic control  of  credit;  but  as  a  matter  of  fact  there  is  a  greater  profit 
accruing  to  the  banks  when  the  call  rate  is  only  3  or  4  per  cent  than 
when  it  is  25  or  50  per  cent.  When  money  rates  reach  these  high 
figures  many  corporations  and  large  individual  depositors  are  tempted 
to  withdraw  their  funds  from  the  banks  in  order  to  make  loans  to 
borrowers  directly.  This  depletion  of  the  banks'  reserves  at  a  time 
when  money  is  generally  tight  more  than  counterbalances  the  high 
returns  on  the  loans  they  may  make  on  call.  Because  of  this  some 
banks  in  New  York  have  made  it  a  rule  never  to  loan  money  on  call 
at  more  than  6  per  cent. 

39.    COLLATERAL  LO.ANS  AND  STOCK  EXCHANGE 
SPECULATION' 

By  SERENO  S.  PRATT 

The  stock-broker  e.xecutes  orders  for  his  customers  on  usually  10 
per  cent  margin,  but  he  is  obliged  to  pay  for  the  securities  in  full  upon 
delivery.  It  would  be  manifestly  impossible  for  any  broker  to  do  this 
without  borrowing  money  from  the  banks.  He  has  extended  credit 
to  his  customer;  he  must  himself  get  credit  from  the  banks.  For 
instance,  a  broker  buys  5,000  shares  of  New  York  Central  at  no, 
amounting  to  8550,000.  But  he  executes  the  order  for  his  customer 
on  a  margin  of  $55,000,  so  that  he  must  pay  the  dilTerence  of  $495,000, 

•  .Adapted  from  The  Work  of  Wail  Street,  pp.  267-74,  287,  275-78. 
(D.  Applcton  &  Co.,  1903.) 


86  PRINCIPLES  OF  MONEY  AND  BANKING 

either  out  of  his  own  capital  or  else  borrow  of  the  banks.  Necessity 
compels  him  to  go  to  the  banks.  lie  takes  the  5,000  shares  of  the 
New  York  Central  to  the  banks  and  offers  them  as  collateral  for  a 
loan.  If  he  is  wise,  he  already  has  an  agreement  with  his  customers 
enabling  him  to  do  this.  The  banks  lend  him  $440,000  on  the  col- 
lateral at  the  prevailing  rate  of  interest.  With  the  $55,000  from  his 
customer  and  $440,000  from  the  banks  the  broker  has  $495,000,  or 
$55,000  less  than  he  must  pay  for  the  stock.  This  he  would  have  to 
supply  out  of  his  own  capital. 

What  is  the  net  result?  The  customer  is  nominally  the  owner 
of  5,000  shares  of  stock,  which  he  has,  however,  never  seen,  and  which 
is  actually  in  the  possession  of  banks  whose  very  names  he  may  not 
know.  The  interest  of  the  banks  in  the  stock  represents  80  per  cent 
of  its  value;  the  broker's,  10  percent;  and  the  customer's,  10  per  cent. 
It  does  not  follow  that  every  transaction  is  exactly  of  these  proportions 
of  risk.  The  broker,  in  fact,  may  be  able  to  obtain  from  the  banks 
loans  large  enough  to  enable  him,  in  connection  with  his  customer's 
margin,  to  carry  a  transaction  without  the  employment  of  much, 
if  any,  of  his  own  capital.  This  example  has  been  based  upon  the 
general  rule  that  the  margin  demanded  by  the  broker  of  his  customer 
is  usually  10  per  cent,  and  the  margin  demanded  by  the  banks  of 
the  broker  is  usually  20  per  cent,  the  percentages  in  both  cases  varying 
in  accordance  with  the  character  of  the  securities.  The  example 
serves  to  illustrate  clearly  the  close  intimacy  existing  between  the 
money-market  and  the  stock-market.  The  money-lenders  are,  in 
fact,  the  actual  holders  of  the  securities  dealt  in,  and  they  have  the 
largest  interest  at  stake  in  the  maintenance  of  values. 

But  this  is  not  the  only  connection  between  the  banks  and  the 
stock-brokers.  Let  us  return  to  the  example  already  given.  The 
broker  has  bought  stock  for  which,  on  delivery,  he  must  pay  $550,000. 
Now,  before  he  can  get  any  loans  from  the  banks  on  this  stock  he 
must  have  the  stock  in  his  possession,  so  as  to  be  able  to  use  it  as 
collateral  for  the  loans.  Before  he  can  get  it  in  his  possession  he  must 
pay  for  it.  His  balance  in  the  bank  may  not  be  more  than  $50,000. 
What  is  he  to  do  ? 

Right  here  enters  the  new  aUiance  between  the  banks  and  the 
brokers.  It  goes  by  the  name  of  certification.  The  broker,  in  the 
case  instanced,  draws  a  check  for  $550,000  in  payment  for  the  stock. 
The  check  is  sent  to  the  bank  where  the  broker  keeps  his  account  for 
certification.     The  cashier  or  paying  teller  indorses  the  check  across 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  87 

its  face,  thus  certifying,  not  only  that  the  signature  is  correct,  but  that 
the  bank  will  pay  the  amount  of  the  check,  on  presentation  and  identi- 
fication, or  when  it  comes  to  it  through  the  operations  of  the  clearing- 
house. But  it  has  been  said  that  the  broker  has  a  balance  of  only 
$50,000,  and  here  the  bank  is  certifying  to  his  check  for  $550,000. 
That  is  what  is  called  "overcertification,"  and  it  is  another  form  of  a 
great  system  of  credits  on  which  the  transactions  of  Wall  Street  stand. 

Overcertificalion  is  in  effect  a  temporary  loan,  and  as  employed 
in  stock  exchange  transactions  involves  Httle  risk.  There  are  a  num- 
ber of  Wall  Street  banks— not  all — that  do  a  regular  business  of  cerlf- 
fying  brokers'  checks,  but  a  large  proportion  of  this  business  is  done 
by  the  trust  companies.  A  broker  enters  into  a  definite  arrangement 
with  one  of  the  institutions  on  a  basis  something  like  this:  The  broker 
agrees  to  keep  a  daily  cash  balance  at  the  bank  of,  say,  $50,000;  in 
return  the  bank  agrees  to  certify  his  checks  to  an  amount,  say,  of 
$1,000,000.  WTiaile  this  seems  starthng,  the  practice  is  in  reality  not 
dangerous. 

The  banking  institutions  are  very  conservative  in  transactions  of 
this  kind.  They  must  know  all  about  the  broker,  his  character,  good 
judgment,  and  business  methods  and  standing.  In  other  words, 
personal  character  is  a  valuable  asset  in  Wall  Street.  A  man's  credit 
in  the  Exchange  and  in  the  banks  depends  largely  upon  it.  Then  the 
bank  stipulates,  in  entering  upon  an  agreement  of  this  kind  with  the 
broker,  that,  while  it  will  certify,  say,  to  an  amount  of  Si, 000,000 
on  a  net  daily  balance  of  $50,000,  the  broker  must  not  frequently 
reach  that  limit.  Moreover,  he  must  make  his  deposits  at  the  bank 
as  frequently  as  he  receives  checks  for  payment  for  securities  delivered. 
He  cannot  wait  until  nearly  3:00  o'clock  and  then  make  one  deposit 
for  the  day,  but  must  deposit,  it  may  be,  six  or  seven  times  a  day. 
The  result  is  that  while  the  broker  is  receiving  the  benefit  of  large 
certifications  in  excess  of  his  balance,  at  the  same  time  he  is  at  fre- 
quent intervals  depositing  other  certified  checks.  Deposits  and  certi- 
fications thus  go  on  simultaneously. 

In  making  these  loans  the  banks  scrutinize  the  collateral  closely. 
The  securities  must  be  strictly  good. delivery  according  to  the  rules 
of  the  Exchange.  Stocks  and  bonds  for  which  there  is  not  a  constant 
market  are  generally  not  acceptable.  The  bank's  protection  consists 
in  its  actual  holding  of  the  collateral,  and  either  in  a  note  signed  by 
the  borrower  in  each  transaction  or  in  a  continuing  agreement,  which 
its  customer  signs,  enabling  the  bank  to  sell  the  securities,  without 


88  PRINCIPLES  OF  MONEY  AND  BANKING 

notice,  in  case  the  borrower  neglects  to  respond  to  the  call  for  payment 
of  the  loan.  This  agreement  obviates  the  necessity  of  a  new  note  each 
time  a  new  loan  is  made. 

The  violation  of  the  national  bank  law  against  overcertification 
is  in  most  cases  more  technical  than  actual;  for  as  soon  as  the  broker 
gets  his  stock  and  arranges  his  loan  he  is  able  to  make  every  check 
good,  and  by  his  arrangement  with  the  bank  he  is  bound  to  maintain 
his  average  daily  balance  of  $50,000,  or  whatever  other  amount 
may  be  agreed  upon.  The  larger  the  average  balance  the  larger  the 
certification. 

But  even  the  appearance  of  violation  of  law  may  be  open  to 
criticism,  and  therefore  the  national  banks  are  gradually  withdrawing 
from  this  business  and  other  institutions  are  taking  their  place. 
The  institutions  also  are  beginning  to  adopt  other  systems,  which 
have  the  merit  of  simplicity  and  freedom  from  possible  illegaUty. 
Many  of  them  are  making  morning  loans  to  brokers  of  an  amount  that 
will  cover  their  probable  certification  for  the  day.  These  loans  are 
based  on  the  "single-name  paper"  of  the  broker — that  is  to  say,  his 
individual,  unindorsed  note.  With  such  a  loan  the  broker  has  to  his 
credit  a  deposit  at  the  bank  sufficient  for  the  day's  probable  business, 
and  technical  overcertification  is  avoided.  The  practical  result  is 
the  same  under  either  system.  The  latter  has  the  merit  of  avoiding 
the  appearance  of  evil. 

The  amount  of  certification  required  in  the  operations  of  the  stock- 
market  is  stupendous.  On  the  deliveries  made  in  the  Stock  Clearing- 
House  transactions  the  certification  actually  required  in  1901  was 
nearly  $11,000,000,000.  The  Stock  Clearing-House  clears  about 
85  per  cent  of  all  the  sales  of  stocks.  The  remaining  15  per  cent,  as 
well  as  transactions  in  bonds,  must  therefore  be  taken  into  account 
in  any  estimate  of  total  certification  required.  The  bonds  alone  added 
at  least  another  billion,  and  it  is  safe  to  say  that  the  business  of  the 
New  York  Stock  Exchange  exclusively,  in  1901,  required  a  certifica- 
tion of  $14,000,000,000,  or  an  average  of  about  $45,000,000  daily. 
This  was  over  one-fifth  the  average  daily  clearances  of  the  Bank 
Clearing-House. 

It  may  be  asked.  What  does  a  bank  make  by  certifying  brokers' 
checks?  In  the  example  given  the  bank  gains  the  use  of  $50,000, 
the  required  daily  balance  of  the  broker.  But  as  the  national  bank 
is,  by  law,  required  to  keep  a  reserve  of  25  per  cent,  its  net  gain  by  this 
operation  is  the  use  of  $37,500.    Its  profit  is  the  mterest  it  earns 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  Sg 

by  the  loaning  of  that  amount.     If  it  were  not  profitable  the  bank 
would  not  engage  in  the  business. 

While  the  great  mass  of  these  stock  exchange  loans  are  on  rail, 
most  brokers  seek  to  secure  a  certain  proportion  of  their  required 
line  of  credit  on  time.  Formerly  time  loans  were  made  by  months, 
but  now  by  days.  Thus  there  are  thirty-day,  sixty-day,  and  ninety- 
day  loans.  The  rates  for  time  loans  are  generally  higher  than  for 
call,  except  in  times  of  severe  stringency  in  the  money-market,  and 
banks  are  commonly  very  conservative  in  making  such  loans  for  long 
periods.  The  bank's  deposits  being  subject  to  withdrawal  on  demand, 
it  follows  that  it  can  lock  up  only  a  comparatively  small  part  of  its 
resources  in  the  form  of  time  loans.  The  stock-broker,  though  pay- 
ing more  for  his  credit  than  he  would  on  his  call-loan  basis,  escapes 
the  liability  of  having  all  his  loans  called  at  one  time. 


90 


PRINCIPLES  OF  MONEY  AND  BANKING 


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PRI^XIPLES  OF  "COMMERCLVL"  BANKING  qi 

41.    INTEREST  RATES  IN  THE  NEW  YORK  MONT^Y  MARKET' 
By  WILLIAM  A.  SCOTT 

The  published  rates  on  money  loaned  on  the  New  York  market 
include  two  sets  of  quotations  under  the  head  "Call  Loans,"  namely, 
call  loans  at  the  stock  exchange  and  at  banks  and  trust  companies; 
seven  under  the  head  "Time  Loans,"  namely,  30-,  60-,  and  90-day, 
and  4-,  5-,  6-,  and  7-month;  and  three  under  the  head  "Commercial 
Paper,"  namely,  double-name,  choice  60-  to  90-days,  and  two  varieties 
of  single-name,  prime  4-  to  6-months,  and  good  4-  to  6-months.  In 
the  weekly  summaries  contained  in  the  Commercial  and  Financial 
Chronicle  the  minimum  and  maximum  quotations  for  each  class  of 
loans  are  given.  A  comparison  of  these  quotations  reveals  some 
interesting  facts. 

The  five  varieties  of  time  loans  quoted  regularly  often  dilTcr  from 
each  other  in  magnitude  and  range.  A  comparison  of  the  minimum 
quotations  for  the  last  eleven  years  reveals  the  general  rule  that  the 
rate  tends  to  rise  as  the  length  of  the  loan  increases,  but  to  this  rule 
there  are  many  exceptions.  For  example,  in  126  weeks  of  the  period 
the  minimum  rates  were  identical  for  all  classes  of  time  loans.  The 
90-day  and  60-day  minimum  rates  were  identical  in  30S  weeks,  the 
4-months  and  90-day  in  320  weeks,  the  5-months  and  4-months  in 
374  weeks,  the  6-months  and  5-months  in  501  weeks. 

The  difference  between  these  quotations  rarely  exceeds  one-half 
of  I  per  cent,  and  the  general  rule  seems  to  be  that  the  influence  of 
time  in  raising  the  rate  grows  less  as  the  length  of  the  loan  increases. 
For  example,  there  is  apt  to  be  a  greater  difTercnce  between  the  quota- 
tions of  60-  and  90-day  paper  than  between  90-day  and  4-months. 
Likewise,  there  is  a  greater  dilTerence  between  90-day  and  4-months 
than  between  4-months  and  5-months  paper. 

The  range  of  time  loans  is  much  less  than  that  of  call  loans,  being 
rarely  above  one-half  of  i  per  cent  in  a  given  week,  and  on  all  classes 
being  zero  during  the  great  majority  of  the  572  weeks  investigated. 
The  tendency  for  the  rate  to  vary  during  the  week  grows  stronger 
as  the  period  of  the  loan  increases.  In  the  case  of  6o-days  loans, 
for  example,  there  were  variations  in  only  162  of  the  572  weeks, 
while  in  that  of  90-day  loans  there  were  variations  in  190  weeks, 
and  in  that  of  4-months  loans,  in  23S  weeks. 

'  Adapted  from  "  Rates  on  the  New  York  Money  Market,  1896--1906,"  Journal 
of  Political  Economy,  XVI  (May,  1908),  273-98. 


92 


PRINCIPLES  OF  MONEY  AND  BANKING 


During  the  greater  part  of  the  last  eleven  years  the  rates  on  all 
classes  of  time  loans  have  averaged  higher  than  those  on  call  loans. 
This  was  true  of  the  annual  averages  of  these  rates  for  seven  of  the 
eleven  years  and  of  the  monthly  averages  for  86  of  the  132  months 
of  the  period.    The  exceptions  to  this  rule,  however,  are  important. 

A  comparison  of  the  quotations  on  commercial  paper  reveals 
the  same  kind  of  differences  that  are  noted  in  the  case  of  call  and  time 
loans.    The  minimum  rate  on  double-name  paper  is  usually  below 


% 


mm 

B^:^V. /_/ 

c/  ^^  7 


A=  Commercial  paper,  double  name  6o-day. 

B= 60-day  time. 

C=CaUloan. 

that  on  single-name,  but  during  254  of  the  572  weeks  of  the  period 
it  was  identical  with  that  on  prime  single-name  paper.  The  differ- 
ence, when  one  exists,  is  usually  one  fourth  of  i  per  cent.  The  range 
for  single-name  paper  is  usually  greater  than  for  double-name  and 
the  fluctuations  are  more  frequent.  As  compared  with  the  rates  on 
time  loans  running  for  the  same  period,  that  on  commercial  paper, 
as  a  rule,  averages  higher.  The  exceptions  to  this  rule  correspond 
in  time  to  those  mentioned  above,  in  which  the  call-loan  rate  averaged 
above  that  on  60-day  time. 

The  chart  above  indicates  the  fluctuations  in  the  following  rates: 
the  minimum  rate  on  60-day  time  loans,  the  minimum  rate  on  60- 
to  90-day  commercial  paper,  and  the  average  call-loan  rate  at  the 


PRINCIPLES  OF  "COMMERCIAL"  BANKING  93 

Stock  exchange.     The    fluctuations    of    these    particular   rates  are 
typical  of  the  others  in  each  class. 

It  will  be  observed  that  in  all  their  principal  and  in  most  of  their 
minor  fluctuations  these  three  rates  move  together.  In  degree  of 
change  the  call-loan  rate  was  decidedly  the  champion,  the  60-day  time 
rate,  as  a  rule,  occupying  second,  and  the  commercial-paper  rate 
third  place.  The  cases  in  which  these  statements  do  not  hold  true 
are  decidedly  exceptional.  These  facts  point  clearly  to  influences 
common  to  all  the  rates  as  the  chief  causes  of  their  fluctuations. 
These  causes  are  to  be  found  in  the  influences  which  afifect  the  rela- 
tions between  the  supply  of  and  demand  for  loanable  funds  in  the 
New  York  market. 


V 

RELATIONS  BETWEEN  BANKS 

Introduction 

In  the  foregoing  chapter  the  bank  has  been  studied  as  a  type  of 
business  institution,  and  as  such  treated  by  itself  alone,  that  is,  inde- 
pendently of  other  banks.  In  actual  practice,  however,  a  bank  is  never 
isolated  in  this  way.  In  the  ordinary  conduct  of  its  business  every 
bank  is  in  many  ways  brought  into  contact  with  other  banks — with 
those  in  the  same  city  or  community,  with  those  in  other  cities,  and 
even  with  the  institutions  of  other  countries.  The  development  of 
the  present  interrelations  of  banking  institutions  has  been  partly  due 
to  a  desire  to  effect  certain  economies  in  the  conduct  of  the  banking 
business;  but  it  has  also  been  due  to  a  very  considerable  degree — 
much  more  than  has  been  generally  realized — to  the  driving  force  of 
competition  under  conditions  that  were  proving  mutually  disadvan- 
tageous, if  not  disastrous,  just  as  the  combination  movement  in 
industry  was  originally  due  in  no  small  degree  to  the  disastrous 
results  of  various  practices  inherent  in  competition. 

Within  a  given  city,  for  instance,  the  banks  are  constantly  brought 
into  relations  through  the  daily  granting  of  loans.  The  extent  to 
which  any  bank  may  loan  is  dependent  in  part  upon  the  extent  to 
which  other  banks  are  loaning.  And  when  the  reserves  of  any  par- 
ticular bank  are  low  there  are  numerous  means  by  which  it  may  increase 
its  loaning  power  at  the  expense  of,  or  through  permission  of,  its  com- 
petitors. One  of  the  most  important  reasons  for  the  establishment  of 
clearing-houses  appears  to  have  been  the  common  practice  among 
banks  of  making  use  of  each  other's  funds  between  settlement  days. 
The  clearing-house,  once  organized,  has,  moreover,  come  to  serve 
the  banks  of  a  given  community  in  a  great  variety  of  ways.  Among 
these  the  clearing  of  checks  has  attracted  the  most  attention;  in  fact, 
the  clearing-house  in  this  regard  is  one  of  the  wonders  of  the  modern 
world.  There  is  something  about  this  daily  settlement  of  many 
millions  of  obligations  in  the  space  of  a  few  minutes  that  makes  a 
tremendous  appeal  to  the  imagination.  Yet,  after  all,  the  "clearing" 
is  merely  an  interesting,  and  relatively  simple,  labor-savmg  device, 

94 


RELATIONS  BETWEEN  BANKS  95 

and  at  the  present  time  cannot  be  regarded  as  the  most  important 
function  performed  by  the  clearing-house. 

By  the  "  system  as  a  whole  "  is  meant  not  only  the  banks  of  a  given 
community  but  those  of  the  entire  country,  for  though  independently 
organized  they  are  all  inextricably  bound  together  by  mutual  interests. 
These  interrelations  are  discussed  under  two  headings:  first,  the 
general  relations  that  exist  in  the  conduct  of  daily  business,  and, 
secondly,  the  peculiar  relations  that  develop  periodically  with  the 
ebb  and  flow  of  business  activity.  This  periodical  tension  and 
ease  in  the  system  as  a  whole  is,  moreover,  of  two  sorts,  seasonal  and 
cyclical,  each  of  which  has  its  own  peculiar  problems.  It  is  in  con- 
nection with  these  seasonal  and  cyclical  variations,  in  fact,  that  the 
hardest  problems  of  banking  organization  and  control  arise. 

The  banks  through  their  clearing-house  associations  have  endeav- 
ored to  control  certain  competitive  practices  that  work  havoc  in  the 
system  as  a  whole  in  every  period  of  stress  in  the  money  market.  To 
some  extent  they  have  been  successful  in  this  voluntary  regulation  of 
the  machinery  of  banking;  but  in  certain  respects  the  immediate  self- 
interest  of  the  independent  members  of  the  system  has  always  proved 
too  powerful  to  be  controlled  by  voluntary  association.  Even 
though  many,  or  even  the  great  majority,  of  the  banks  of  the  system 
be  willing  and  anxious  to  sacrifice  immediate  gains  for  the  sake  of 
saving  the  entire  structure  from  crumbling,  they  are  powerless 
to  resist  the  minority.  When  some  strike  out  to  save  themseh'es, 
leaving  the  system  as  a  whole  to  its  fate,  the  rest  must  follow  suit, 
for  the  system  is  then  already  crumbling,  and  self-preservation 
becomes  the  first  law  of  banking. 

When  the  strain  on  the  system  is  great  at  one  point,  some  relief 
has  often  been  gained  by  calling  upon  banks  in  some  other  part  of  the 
country;  but  there  are  limits  to  this  in  consequence  of  the  independ- 
ent basis  of  organization  of  our  banks,  and  for  the  reasons  suggested 
above.  When  the  strain  on  the  entire  system  becomes  severe, 
relief  has  frequently  been  sought  from  the  federal  treasur\^;  but  this, 
too,  is  a  Jimited  source  of  aid.  Finally,  gold  may  be  imported  from 
other  countries  when  the  supply  of  loanable  funds  is  inadequate  to 
meet  the  requirements  of  business.  At  times  some  assistance  has 
been  procured  from  this  source,  but  one  of  the  striking  weaknesses  of 
our  independent  banking  system  has  been  the  lack  of  elTective 
machinery  for  controlling  the  international  flow  of  specie;  gold  has 
often  flowed  out  of  the  country  at  the  very  time  when  it  was  needed 
as  a  l:)asis  for  domestic  loans. 


96 


PRINCIPLES  OF  MONEY  AND  BANKING 


When  all  means  of  procuring  elsewhere  the  additional  funds 
needed  in  time  of  monetary  stringency  have  failed  or  been  exhausted, 
there  still  remains  the  alternative  of  manufacturing  more  currency 
that  can  serve  as  the  basis  of  credit  expansion.  But  under  our 
national  banking  system  our  currency  always  proved  inelastic;  it 
could  not  readily  be  increased  in  quantity  to  meet  the  requirements  of 
the  situation  in  time  of  stringency,  nor  could  the  quantity  be  easily 
reduced  during  periods  of  monetary  ease.  This  inelasticity,  however, 
was  due  not  so  much  to  the  system  of  independent  banking  as  to  the 
nature  of  the  security  required  by  law  for  the  notes  issued  by  the 
national  banks.  Through  the  use  of  clearing-house  loan  certificates 
and  the  equalization  of  reserves  the  banks  have  at  times  been  able 
to  save  the  financial  system  from  breaking  under  the  strain,  but  gen- 
erally the  inability  of  a  voluntary  association  to  control  the  policy 
of  all  its  members  has  resulted  in  disaster  for  all.  Government  regu- 
lation and  government  provision  for  an  elastic  currency  appear, 
therefore,  to  be  a  necessity. 


42. 


A.     Within  a  Given  City 

(i)  LOANING  RELATIONS 

RESERVES  OF  CLEARING-HOUSE  BANKS  AND  TRUST 
COMPANIES  IN  NEW  YORK^ 


Capiial 

(igo7) 
Week  ENDiNot  Sept.  14 

(1913) 
Week  Ending  f  August  30 

Name  of  Bank 

Surplus 
Reserve 

Percentage 
Reserve 

Surplus 
Reserve 

Percentage 
Reserve 

Bank  of  New  York  National 

Banking  Association 

Bank    of    the    Manhattan 

$    2,000,000 

2,050,000 
2,000,000 

6,000,000 

1,500,000 

25,000,000 

3,000,000 

600.000 
1,000,000 

300,000 
500,000 

5,000,000 

25,000,000 

3,000,000 

500,000 

2,250,000 
200,000 

$    337.800 

740,000 
219,900 

89,500 

76,500 

3,924,100 

677,800 

337.000* 
21,400 

47,500* 
52,800* 

761,000* 
1,825,000 
326,000* 
446,700* 

13,100 
39.300 

27.1 

27.6 
26.0 

25. 4 
25. 3 
27   0 
27  .6 

19.5 
25.4 

22.5 

24.1 

21 .0 
26.6 
22.4 
23.6 

25.1 
26.6 

$      166,750 

710,500 

101,000* 

40,000* 
66.250 
2,463,000 
247,000 

14,500* 

25  9 
27.0 

Merchants  National  Bank. . 
Mechanics  and  Metals  Na- 

24.4 
25.0 

25.2 

National  City  Bank 

Chemical  National  Bank. .  . 
Merchants    Exchange    Na- 

26.2 
26.0 

24  7 

Gallatin  National  Bank. .  .  . 
National      Butchers'      and 

30,800 
26,300 

156,300 
2,115,300 

26.8 

25.2 

American  Exchange  Nation- 

25.3 

National  Bank  of  Commerce 
Mercantile  National  Bank.. 

26.7 

2,500 

40,500 
25.000 

25.0 

Chatham   and    Phenix   Na- 

25.2 

26.0 

*  Deficit.  t  Average  for  the  week. 

'  Data  taken  from  the  Commercial  and  Financial  Chronicle. 


RELATIONS  BETWEEN  BANKS 


97 


Capital 

(1Q07) 
Week  E>fDiNG  Seft.  14 

(1913) 
Week  Ending  Augost  30 

Naue  of  Bank 

Surplus 
Reserve 

Percentage 
Reserve 

Surplus 
Reserve 

Percentage 
Reserve 

Hanover  National  Bank .  .  . 

Citizens'    Central   National 

Bank 

3,000,000 

2,550,000 
1,000,000 

1,000,000 
2,000,000 
3,000,000 

1,500,000 
5,000,000 
250,000 
5,000,000 
1,000,000 
10,000,000 

4,000,000 
250,000 

500,000 

750,000 

5,000,000 

100,000 

200,000 

200,000 

1,000,000 

1,000,000 

250,000 

1,000,000 

200,000 

1,000,000 

1,000,000 

1,000,000 
1,000,000 
1,000,000 

1,000,000 

1,000,000 

1,000,000 

1,131,000 

254,800 
311,900* 

43.200 
256,400* 
234,500 

168,000* 
841,300 

48,900* 
252,000 

17,500* 
542,100 

276,500 
132,200* 

222,900* 

37,000* 
540,400 
158,600 

52,800* 
197,600 

82,600* 
3,loo* 

14,700* 
510,200* 

46,500 
157.300 

72,700* 

!i'^°°* 
1,060,000* 

t 

a6.7 

36.3 
17.0 

25.6 
22.7 
25  5 

24.2 
26.0 
20.8 
36.3 
34.8 
25-7 

26.9 
21.3 

31.3 
23-9 
25-9 
26. s 
23.6 
28.3 
24.4 
25.0 
24.4 
19.0 
26.0 
25.8 
243 

26.1 
18.1 

174,000* 

235,300 
34,200* 

353.800 

56,200* 

303,500 

23.000 
169,800 

67,300 
251,000 

26,800 
848,800 

228,800 
15,200* 

98,000* 
76,800 
5,170,000 

197,500 
14,000* 
33.800 

62,500 

316,300 

14,000 

5 5. 800 

5.300 

617,000 
63,800 

57,300 
8,800 
9,200* 

59,000 

16,500 

24,000 

24  7 
26.1 

National  Nassau  Bank 

Market  and  Fulton  National 
Bank       

24  7 
28.8 

Metropolitan  Bank 

Corn  Exchange  Bank 

Importers  and  Traders  Na- 

24.6 
25  4 

25.0 

National  Park  Bank 

East  River  National  Bank. . 

Fourth  National  Bank 

Second  National  Bank 

First  National  Bank 

Irving   National   Exchange 
Bank 

25.1 
29.6 
25.8 
254 
25.8 

255 

245 

New  York  County  National 
Bank 

23  8 

German-American  Bank .  .  . 

Chase  National  Bank 

Fifth  Avenue  Bank 

German  Exchange  Bank. . . 

27.0 
29.6 
26.4 
24-5 
25.5 

Lincoln  National  Bank.  . .  . 

Garfield  National  Bank 

Fifth  National  Bank 

Bank  of  the  Metropolis. . . . 

25-4 
27-4 
25-3 
25s 
25. 1 

Seaboard  National  Bank. . . 
Liberty  National  Bank.  .  .  . 
New     York     Produce     Ex- 

27.3 
25   2 

25  5 

State  Bank 

25  0 

25  0 

Coal    and    Iron    National 
Bank 

X 

36.0 

Union    Exchange   National 
Bank   

X 

25-4 

Nassau      National      Bank, 

X 

35.1 

Total 

$133,650,000 

$6,918,700 

25.6 

$1,385,746 

26.0 

Brooklyn  Trust  Company. . 
Bankers  Trust  Company. .  . 
U.S.  Mortgage    and    Trust 

Company 

Astor  Trust  Company 

Title  Guarantee  ancf  Trust 

$  1,500,000 
10,000,000 

2,000,000 
1,250,000 

5,000,000 

10,000,000 

1 ,000,000 

4,000,000 

2,000,000 
1,000,000 
3,000,000 
1 ,000,000 
1,000,000 

2,000,000 
1,500,000 

§ 

$      279,750 
1,364,500 

3,830,000 
660,000 

3,046,500 

15,022,000 

218,750 

244,750 

819,500 
423.500 
1,251,250 
363,000 
124,500 

1,065.500 
777.SOO 

lS.0-t-10.2ll 

iS.o-|-io.  1 

iS.o-t-13.6 

15.0-1-12. 6 

lS.o-l-16.7 

Guaranty  Trust  Company.. 
Fidelity  Trust  Company.  .  . 
Lawyers'     Title     Insurance 

and  Trust  Comp.-iny 

Columbia- Knickerbocker 

Trust  Company 

People's  Trust  Company.  .  . 
New  York  Trust  Company. 
Franklin  Trust  Company..  . 
Lincoln  Trust  Company..  . . 
Metropolitan    Trust    Com- 

14.3-1-20.5 

15.6-I-10.6 

IS.4  +  IS* 

15.0-I-I0.8 

14.  7-Hii  .4 

15.0-1-12.5 

i6.o-t-ii  .3 

15.  i-l-io.i 

iSO-l-16.1 

Broadway  Trust  Company . 

15.0-1-14.5 

Total 

$46,250,000 

$24,187,750 

14.8-1-14.1 

♦Deficit. 

t  Not  organized  in  1907. 


11  These  include  deposits  in  clearing-house  bonks. 
%  Trust  company  figures  not  obtainable  for  1907- 


g8  PRINCIPLES  OF  MONEY  AND  BANKING 

43.    NATIONAL  BANKS  AND  TRUST  COMPANIES' 
By  O.  M.  W.  SPRAGUE 

In  times  of  moderate  strain  the  clearing-house  banks  of  New  York 
were  often  enabled  by  means  of  the  trust  companies  to  make  a  better 
showing  in  the  weekly  bank  statements  than  would  otherwise  have 
been  the  case.  As  the  business  of  the  trust  companies  was  chiefly  local 
they  were  not  subject  to  seasonal  withdrawals  of  cash,  and  their  lend- 
ing power  was,  therefore,  more  nearly  the  same  throughout  the  year. 
An  increase  in  rates  for  loans  in  New  York  was  usually  followed  by  a 
shifting  of  loans  from  banks  to  trust  companies.  By  this  means  the 
deposit  liabilities  of  the  clearing-house  banks  were  reduced,  thus 
enabling  them  to  preserve  the  cherished  25  per  cent  reserve  ratio. 
The  resort  to  this  device  was,  of  course,  greatly  simplified  through  the 
close  affiliations  between  some  of  the  large  banks  and  trust  companies, 
and  it  was  so  much  in  evidence  during  the  years  before  the  crisis  of 
1907  that  the  surplus  reserve  became  quite  as  much  an  object  of 
mirth  as  of  confidence. 

44.    INTERDEPENDENCE  OF  BANK  RESERVES' 
By  victor  MORAWETZ 

The  character  and  sufficiency  of  bank  reserves  must  be  con- 
sidered with  regard  to  the  banking  situation  as  a  whole  as  well  as  with 
regard  to  the  affairs  of  each  separate  bank. 

Thus  a  deposit  claim  of  one  bank  against  another  bank — that  is 
to  say,  its  right  to  call  upon  such  other  bank  for  the  payment  on 
demand  of  a  sum  of  money — may  be  treated  as  a  reserve,  if  we  leave 
out  of  consideration  the  position  of  the  banks  collectiv^ely  and  the 
general  banking  situation.  But  obviously  the  liability  of  a  bank 
to  pay  money  to  another  bank  would  not  increase  the  collective  ability 
of  all  the  banks  to  pay  all  their  depositors  and  would  not  in  the  least 
strengthen  the  general  financial  situation.  When  a  particular  bank 
strengthens  its  own  reserve  by  drawing  upon  its  deposit  with  another 
bank,  it  weakens  to  the  same  extent  the  reserve  of  the  bank  upon  which 
it  draws. 

'  Adapted  from  Crises  under  the  National  Banking  System,  pp.  227-28.  (Na- 
tional Monetary  Commission,  19 10.) 

'  Adapted  from  The  Banking  and  Currency  Problem  in  the  United  States, 
pp.  16-19.     (North  American  Review  Publishing  Co.,  1909.) 


RELATIONS  BETWEEN  BANKS  99 

Similarly,  bank-notes  may  be  treated  as  a  reserve  if  the  position 
of  the  bank  holding  such  notes  be  considered  without  regard  to  the 
general  banking  situation;  but,  having  regard  to  the  situation  of  all 
the  banks,  it  is  clear  that  such  notes  are  not  good  as  a  reserve.  A 
bank  note  is  merely  a  promissory  note  payable  in  money  on  demand. 
Bank  "A"  holding  notes  of  bank  "B"  may  consider  such  notes  as 
good  as  money  so  long  as  bank  "B  "  is  solvent  and  pays  its  obligations 
on  demand;  but  it  is  obvious  that  when  bank  "A"  obtains  money 
from  bank  "B"  by  requiring  it  to  redeem  its  notes,  the  reserves  of 
bank  "B  "  will  be  diminished  exactly  as  much  as  the  reserves  of  bank 
"A"  are  increased.  That,  having  regard  to  the  entire  banking  situa- 
tion, bank  notes  are  not  a  good  reserve  becomes  apparent  upon  consid- 
ering the  case  of  several  banks  exchanging  their  notes,  and  each  bank 
calling  upon  the  others  to  pay  their  notes  in  lawful  money. 

As  long  as  financial  conditions  are  normal,  call  loans  may  be 
regarded  as  a  good  reserve,  because  a  bank  can  obtain  cash  promptly 
by  calling  such  loans;  but  call  loans  do  not  strengthen  the  general 
banking  situation,  and,  therefore,  when  there  is  a  severe  money 
stringency,  they  are  not  good  as  a  reserve.  When  a  bank  calls  a  loan, 
the  borrower  either  must  borrow  the  same  sum  from  some  other  bank, 
although  required  to  pay  a  very  high  rate  of  interest,  or  he  must 
obtain  the  recjuired  sum  by  selling  property,  and  in  that  event  the 
purchaser  usually  must  draw  the  money  from  the  banks.  Therefore 
when  a  bank  strengthens  its  reserve  by  calling  a  loan,  the  practical 
elTect  is  to  draw  the  money  from  other  banks  and  pro  tanto  to  weaken 
their  reserves. 

For  similar  reasons,  as  long  as  financial  conditions  generally  are 
not  strained,  bonds  or  other  securities  that  have  a  ready  market  may 
serve  as  a  reserve,  because  by  selling  such  bonds  or  securities  a 
bank  can  obtain  money;  but  reserves  of  that  character  do  not 
strengthen  the  general  credit  situation  and  are  not  available  when 
most  needed  by  the  banks  that  hold  them.  When  a  bank  sells 
securities  in  order  to  obtain  lawful  money  to  pay  its  depositors,  the 
purchaser  usually  must  draw  the  i)urchase  price  from  the  banks.  The 
selling  bank  thus  would  obtain  lawful  money  by  drawing  indirectly 
from  the  reserves  of  other  banks.  Therefore  when  there  is  a  general 
money  stringency,  bonds  or  other  salable  securities  are  not  good 
reserves.  During  the  recent  panic  many  of  the  banks  and  trust 
companies,  including  some  of  those  which  failed,  owned  large  amounts 


lOO  PRINCIPLKS  OF  MONKY  ASl)  BANKING 

of  high-class  securities,  but  this  did  not  help  them  or  relieve  the 
general  situation,  as  the  combined  lawful  money  reserves  of  the 
banks  and  trust  companies  were  inadequate. 

Deposits  by  banks  in  other  banks,  bank  notes,  call  loans,  and 
bonds  or  other  securities  are  not,  properly  speaking,  bank  reserves 
at  all.  They  are  only  the  means  of  obtaining  reserve  money  for 
particular  banks  by  drawing  this  money  from  the  reserves  of  other 
banks.  In  considering  the  general  financial  situation,  deposits  of 
banks,  bank  notes,  call  loans,  and  securities  held  by  the  banks  should 
be  disregarded.  For  the  ultimate  payment  of  bank-deposit  liabilities 
the  only  true  reserve  is  legal-tender  money. 

45.    EARLY  SETTLEMENT  OF  BALANCES  BETWEEN  BANKS^ 
By  JAMES  G.  CANNON 

Prior  to  the  establishment  of  the  New  York  Clearing-House  in 
1853  the  method  of  settling  balances  between  banks  was  a  very  costly 
and  cumbersome  process.  In  the  daily  course  of  business  each  bank 
received  checks  and  other  items  on  each  of  the  other  banks,  which 
had  to  be  presented  for  collection.  All  such  items  on  hand  were 
assorted  and  listed  on  separate  slips  at  the  close  of  the  day,  and  items 
coming  in  through  the  mail  on  the  following  morning  were  added  at 
that  time.  To  make  the  daily  exchanges  each  bank  sent  a  porter 
with  a  book  of  entry,  or  passbook,  together  with  the  items  to  be 
exchanged. 

The  receiving  teller  of  the  first  bank  visited  entered  the  exchanges 
brought  by  the  porter  on  the  credit  side  of  his  book  and  the  return 
exchanges  on  the  debit  side,  who  then  hurried  away  to  deliver  and 
receive  in  like  manner  at  the  other  banks.  It  often  happened  that  five 
or  six  porters  would  meet  at  the  same  bank,  thereby  retarding  one 
another's  progress  and  causing  much  delay.  Considerable  time  was 
consumed  in  making  the  circuit.  Hence,  the  entry  of  the  return  items 
in  the  books  of  the  several  banks  was  delayed  until  the  afternoon, 
at  an  hour  when  the  other  work  of  the  bank  was  becoming 
urgent. 

A  daily  settlement  of  the  balances  was  not  attempted  by  tlie  banks, 
owing  to  the  time  it  would  have  required,  but  they  informally  agreed 
upon  a  weekly  adjustment,  the  same  to  take  place  after  the  exchanges 

'Adapted  from  Clearing-Houses,  pp.  127-31.  (National  Monetary  Com- 
mission, 1910.) 


RELATIONS  BETWEEN  BANKS  loi 

on  Friday  morning.  At  that  time  the  cashier  of  each  bank  drew  a 
check  for  each  of  the  several  balances  due  it  and  sent  a  porter  out  to 
collect  them.  At  the  same  time  the  porter  carried  coin  with  which  to 
pay  balances  due  by  his  bank.  After  the  settlement  had  been  made, 
there  was  a  meeting  to  adjust  dilTerences  and  bring  order  out  of  chaos. 

An  old  bank  officer,  in  describing  the  inconveniences  and  defects 
of  this  system,  says  that  some  of  the  more  speculative  banks  took 
advantage  of  the  weekly  method  of  settlements  by  carrying  a  line  of 
discounts  to  an  amount  greater  than  their  legitimate  resources  would 
allow.  Thus  a  bank  would  manage  to  carry  a  small  debit  balance 
of  $2,000  or  $3,000  with  thirty  or  more  institutions,  making  a  total 
debit  balance  of,  say,  $100,000  on  which  it  discounted  paper.  It 
was  the  practice  to  borrow  enough  on  Thursday  to  make  the  settle- 
ments on  Friday,  and  the  return  of  the  loan  on  Saturday  threw  it  again 
into  the  debtor  column.  Virtually,  therefore,  the  weekly  settlements 
were  nominal  only,  and  to  show  tliat  there  was  no  attempt  at  economy 
of  time  and  labor  in  making  them,  it  is  only  necessary  to  say  that  the 
cashier  drew  a  check  for  every  balance  due  him,  whereas  a  draft  on 
one  bank  in  favor  of  another  might  have  settled  two  accounts  at  once. 

The  banks  were  at  liberty  to  draw  on  each  other  for  their  credit 
balances  without  waiting  for  the  settlements  on  Friday,  and  hence, 
when  specie  was  needed,  this  was  not  infrequently  done.  But  so  far 
did  many  of  the  banks  extend  their  loans  and  discounts  that  a  single 
small  draft  by  one  bank  on  another  would  induce  a  general  drawing 
and  involve  them  all  in  confusion  and  virtual  war  on  each  other. 
Three  o'clock  would  arrive,  with  the  line  of  drafts  incomplete,  thus 
enabling  the  debtor  banks  ofttimes  to  add  $50,000  to  their  specie, 
whereas  creditor  banks  would  find  themselves  at  the  close  of  the  day 
depleted  in  perhaps  twice  that  sum. 

46.  LOANS  OF  NEW  YORK  BANKS  AND  CLEARING-HOUSE 

BALANCES 

Each  bank  in  New  York  attempts  to  keep  at  all  times  a  close 
adjustment  of  loans  and  reserves,  that  is,  to  prevent  a  decided  fluctua- 
tion in  the  ratio.  This  is  accomplished  through  an  expansion  or 
contraction  of  call  loans,  and  the  banks  of  the  metropolis  even  go 
so  far  as  to  anticipate  the  balances  resulting  from  the  daily  settle- 
ments at  the  clearing-house.  Call  loans  are  made  in  two  ways:  at 
each  bank  as  a  lending  institution,  and  at  the  "money  post"  on  tlie 
floor  of  the  Stock  Exchange,  where  the  representatives  of  the  banks 


I02  PRINCIl'LES  OF  MONEY  AND  BANKING 

meet  with  the  stock-exchange  brokers  each  business  day  at  ii  o'clock. 
By  that  time  each  Ixank  has  heard  the  returns  from  the  clearing-house 
settlement  and  knows  whether  its  reserve  for  the  day  has  increased  or 
decreased.  It  can,  therefore,  calculate  whether  it  can  expand  its  loans 
or  whether  it  must  "call"  some  of  its  demand  loans  in  order  to  replen- 
ish its  reserve.  Each  broker  also  usually  knows  at  that  hour  whether 
he  has  a  surplus  or  needs  to  borrow.  For  about  an  hour,  therefore, 
banking  operations  are  active  on  the  stock  exchange. 

About  two  o'clock  there  is  usually  another  bustle  of  activity 
in  consequence  of  unexpected  inflows  and  outflows  of  bank  funds. 
Thus  an  almost  constant  adjustment  is  effected,  in  so  far  as  the  con- 
ditions of  the  market  as  a  whole  permit. 

(2)  CLEARING-HOUSES 

47.    THE  ORIGIN  OF  CLEARING-HOUSES  IN  THE  UNITED 

STATES ' 

By  JAMES  G.  CANNON 

On  August  23,  1853,  16  presidents,  i  vice-president,  and  21 
cashiers,  representing  38  banks,  assembled  in  the  directors'  room  of 
the  Merchants'  Bank,  New  York,  and  appointed  a  committee  with 
instructions  to  prepare  a  plan  "to  simplify  the  system  of  making 
exchanges  and  settling  the  daily  balances."  On  September  13  the 
plan  proposed  was  adopted,  to  become  effective  on  October  11. 
Accordingly,  on  the  appointed  day,  the  representatives  of  the  banks, 
members  of  the  association,  met  in  a  room  which  had  been  procured 
in  the  basement  at  No.  14  Wall  Street,  and  made  the  first  exchanges. 
The  total  clearings  on  that  day  were  $22,648,109.87,  and  the  balances 
were  $1,290,572.38.  These  clearings  have  since  been  ecHpsed  by 
over  $30,000,000  in  the  totals  of  a  single  bank. 

The  clearing  system  in  America  was  thus  fairly  launched,  and 
from  that  time  forth  its  success  exceeded  the  expectations  of  even  its 
most  ardent  projectors.  The  association  consisted  at  that  time  of 
52  banks,  banded  together  for  their  common  good,  which,  as  they 
then  conceived,  consisted  solely  in  the  exchange  of  items  and  settle- 
ment of  balances  at  a  uniform  time  and  place.  For  nearly  a  year 
the  operations  were  conducted  without  a  constitution.  The  adoption 
of  such  an  instrument  was  opposed,  on  the  ground  that  it  was  not 

'Adapted  from  Clearing-Houses,  pp.  133-35;  263-65.  (National  Monetary 
Commission,  1910.) 


RELATIONS  BETWEEN  BANKS 


103 


needed  and  might  lead  to  a  dangerous  concentration  of  power  in  the 
hands  of  a  few  managers,  who  might  use  it  for  personal  aggrandize- 
ment or  for  the  exercise  of  an  arbitrary  supervision.  But  the  need 
of  fixed  rules  of  some  sort  for  their  guidance  became  more  and  more 
urgent,  and  on  August  i,  1S54,  a  constilulion  was  adopted. 

This  instrument,  with  the  changes  that  have  been  made  from  time 
to  time  by  the  adoption  of  amendments  and  resolutions,  is  in  force  at 
the  present  day. 

'Following  the  lead  of  New  York  all  the  principal  cities  of  the 
country  have  organized  clearing-houses  until  at  the  present  time  there 
are  considerably  more  than  a  hundred. 


48.    THE  PRINCIPLE  INVOLVED  IN  "  CLEARING "» 
By  CHARLES  F.  DUNBAR 

To  illustrate  the  working  of  the  Clearing-House  system,  we  will 
suppose  the  case  of  sLx  banks  carrying  on  business  in  the  same  town. 
On  a  given  morning  we  will  suppose  the  messengers  of  these  banks  to 
meet  at  the  Clearing-House,  each  bringing  the  checks  received  by  his 
bank  in  deposit  on  the  previous  day,  as  follows: 


No.  I, 

checks 

on  No. 

2.  . 

. .   $  6,500 

No 

•  4, 

checks 

on  No 

I.  . 

.  .  $  8,750 

u 

« 

u      u 

3- 

9,200 

a 

a 

u      u 

2.  . 

. .       4,700 

u 

u 

u      u 

4.. 

7,100 

u 

« 

u       u 

3-- 

6,740 

u 

u 

u       a 

S-- 

6,250 

u 

u 

u      u 

5-- 

..       5,820 

u 

u 

u      u 

6.. 

■ .        4,500 

u 

u 

u      u 

6.. 

5,UO 

$33,550 

$31,150 

No.  2, 

checks 

on  No. 

I. . 

.  .   $  7,800 

No 

•  5, 

checks 

on  No 

I. . 

. .  $  8,740 

u 

u 

u      u 

3- 

4,100 

u 

u 

u       u 

2. . 

4,620 

u 

u 

a      (( 

4-- 

•  .        5,760 

u 

u 

a       u 

3- 

..       9,250 

u 

a 

u       u 

5-- 

6,340 

u 

u 

a       u 

4- 

7,680 

u 

a 

u      u 

6.. 

.  .        5,870 
$29,870 

u 

u 

u      u 

6.. 

•  •       5.940 

$36,230 

No.  3 

checks 

on  No 

I. . 

..   $  6,750 

No 

.6, 

checks 

on  No 

I. . 

..  $  3-700 

u 

« 

u      u 

2. . 

4,270 

a 

u 

u       « 

2. . 

4,100 

u 

u 

u      u 

4.. 

5,900 

« 

u 

u       u 

3-- 

6,740 

u 

u 

u      u 

5-- 

6,400 

a 

u 

u       u 

4-- 

..       9.250 

u 

a 

u      u 

6.. 

•  •        5,940 

u 

u 

u       a 

5-- 

. .       7.850 

$29,260 

$31,640 

u 

\.dapted 

from  T 

he  Ti 

leory  a  ltd  History 

of  B 

anking, 

PP-  52- 

53- 

(G.  P.  Put- 

I04 


PRINCIPLES  OF  MONEY  AND  BANKING 


The  sum  of  all  the  checks  brought  in  is  $191,700.  If,  now,  we 
credit  each  bank  with  the  checks  which  it  presents  against  the  others 
and  charge  it  with  the  checks  presented  by  them  against  it,  we  shall 
find  that  No.  i  is  charged  with  $35,740  and  credited  with  $33,550, 
that  No.  2  is  charged  with  $24,190  and  credited  with  $29,870,  and  so 
for  the  others,  and,  therefore,  that 


No.  I  owes  a 

balance  of  . . 

. .  $  2,190 

No.  2  is  owed 

u 

u 

$  S,68o 

No.  3  owes 

u 

u 

• .     6,770 

No.  4  owes 

u 

u 

4,540 

No.  5  is  owed 

u 

u 

3,570 

No.  6  is  owed 

u 

u 

4,250 

$13,500       $13,500 

If,  then,  the  debtor  banks,  Nos.  1,3,  and  4,  pay  into  the  Clearing- 
House  the  sums  due  from  them,  amounting  to  $  1 3 ,  500,  and  the  Clearing- 
House  pays  out  to  the  creditor  banks,  Nos.  2,  5,  and  6,  the  sums  due 
them,  of  like  amount,  the  result  will  be  that  every  bank  will,  in  effect, 
have  collected  payment  of  all  the  checks  which  it  had  received  and 
will  have  made  payment  of  all  the  checks  drawn  against  it.  This 
settlement  of  checks,  amounting  in  all  to  $191,700,  will  have  been  made 
by  the  payment  of  $13,500,  and  transactions  apparently  involving 
thirty  separate  demands,  each  bank  being  the  creditor  of  five  others, 
will  have  been  settled  by  a  series  of  additions  made  at  a  central 
office,  followed  by  three  payments  to  and  three  payments  from  a  com- 
mon fund. 


49.    ORGANIZATION  AND  OPERATION  OF  CLEARING-HOUSES' 
By  JAMES  G.  CANNON 

The  government  of  a  clearing-house  association  in  the  United 
States  is,  theoretically,  vested  in  a  president,  vice-president,  secretary, 
treasurer,  manager,  and  a  clearing-house  committee,  sometimes 
termed  "committee  of  management"  or  "executive  committee." 
Not  every  association,  however,  is  as  completely  officered  as  this; 
in  fact,  there  are  many  associations  that  do  not  have  the  full  list  of 
officials  named.    A  president,  a  manager,  and  an  executive  committee, 


'  Adapted  from  Clearing-Houses,  pp.  28-46.     (National  Monetary  Commis- 


sion, 1910.) 


RELATIONS  BETWEEN  BANKS  105 

however,  are  found  in  the  organization  of  nearly  every  clearing-house 
association,  for  these  functionaries  are  practically  indispensable. 

The  clearing-house  association  holds  an  annual  meeting  for  the 
purpose  of  electing  officers  and  committees  and  for  the  transaction  of 
other  business.  The  quorum  is  usually  fixed  at  a  majority  of  all 
the  associated  banks.  In  some  instances,  however,  it  is  fixed  at 
two-thirds,  and  in  a  few  cases  even  as  low  as  one-third,  of  all  the 
members.  Sometimes  a  specified  number  is  designated  as  constitut- 
ing a  quorum.  Each  bank  is  expected  to  be  represented  at  the 
annual  meeting  by  one  or  more  of  the  officers,  but  is  usually  allowed 
only  one  vote. 

The  rules  regulating  the  kinds  of  matter  to  be  cleared  are  by  no 
means  uniform.  A  number  of  organizations  specify  in  their  articles 
of  association  what  shall  be  considered  proper  clearing  matter.  With 
but  two  exceptions  the  exchanges  passing  through  the  clearing-house 
are  confined  to  items  drawn  upon  members  or  upon  non-members 
clearing  through  members.  That  is  to  say,  checks  and  drafts  received 
by  a  bank  member  of  a  clearing-house  in  any  city  drawn  upon  another 
member  of  the  same  clearing-house,  from  whatever  source  the  checks 
may  have  been  received,  are  liquidated  through  the  clearing-house; 
but  checks  and  drafts  received  by  a  member  of  a  clearing-house  drawn 
upon  some  bank  located  at  a  distance,  and  not  a  member,  nor  clearing 
through  a  member,  are  regarded  as  improper  matter  for  clearing. 

The  number  of  messengers  required  to  transport  the  exchanges 
to  and  from  the  clearing-house  varies  widely  in  difi^crent  cities.  When 
the  business  is  light,  as  in  some  of  the  smaller  cities,  one  person  acts 
as  both  messenger  anti  settling  clerk,  while  in  some  of  the  larger  cities 
the  exchanges  of  some  of  the  banks  are  so  heavy  that  four  or  five 
messengers  are  necessary  to  transport  them. 

Checks  are  taken  to  the  clearing-house  bound  together  with  rubber 
bands  or  inclosed  in  large  envelopes,  the  items  that  go  to  each  of  the 
members  being  kept  separate.  If  the  bulk  is  not  too  great,  they  are 
often  carried  in  the  hand,  but  it  is  customary  in  the  large  cities  to 
transport  them  in  leather  bags  or  cases.  The  usual  rule  is  that 
immediately  upon  his  arrival  at  the  clearing-house  the  settling  clerk 
delivers  to  the  manager,  or  the  assistant  manager,  a  ticket  containing 
the  amount  of  the  items  brought  from  his  bank. 

Two  methods  of  delivering  items  in  the  exchange  room  are  in 
vogue.  In  the  one  case  they  are  delivered  by  all  the  clerks  simul- 
taneously;   in  the  other  by  each  clerk  as  soon  as  he  arrives  at  th(; 


I06  I'RIXCII'I.KS  OF  MONKY  AND  BANKING 

clearing- room;  but  the  exchanges  must  all  be  made  before  a  specified 
time. 

When  the  clerks  begin  the  exchanges  at  the  same  time,  they  all 
start  upon  the  signal  from  the  manager  with  their  items  on  their 
arms  or  in  bags  or  cases  strapped  over  the  back,  and  proceed  in  the 
same  direction,  passing  along  the  desks  until  they  have  deposited  all 
their  paper.  In  the  large  cities,  where  the  clerks  are  numerous,  order 
and  method  are  necessary  in  delivery  to  prevent  confusion  and  to  save 
time.  But  in  small  cities,  where  the  clerks  usually  deliver  their  items 
as  soon  as  they  arrive,  more  liberty  is  allowed  in  personal  conduct;  also 
by  this  method  an  opportunity  is  afforded  to  the  less  proficient  clerks 
to  arrive  early  and  list  their  items  as  fast  as  they  are  delivered  to 
them  from  the  other  banks. 

When  the  clearings  have  been  made,  the  next  step  is  for  each 
settling  clerk  to  determine  the  amount  of  the  balance  of  his  own  bank, 
which  is  found  by  taking  the  difference  between  the  amount  brought 
to  the  clearing-house  and  the  amount  taken  away.  A  certain  amount 
of  time  is  allowed  for  the  proof.  In  some  cases  the  setthng  clerks  do 
not  remain  until  the  proof  is  made,  but  leave  for  their  respective 
banks  as  soon  as  they  make  out  their  tickets  for  the  amounts  brought, 
amounts  received,  and  balances.  If  the  manager  of  the  clearing- 
house, or  his  assistant  in  charge  of  the  proofsheet,  finds,  after  he  has 
made  all  the  entries  and  additions,  that  his  work  does  not  prove,  he 
first  determines  whether  the  error  was  made  by  one  of  the  settling 
clerks  or  by  himself.  If  by  one  of  the  clerks,  it  is  usually  discovered 
in  a  short  time  at  the  bank,  whereupon  the  latter  reports  the  error  to 
the  manager  at  the  clearing-house  either  by  messenger  or  by  tele- 
phone. If  the  bank  fails  to  report  the  error  in  due  time,  the  manager 
takes  the  debit  and  credit  slips  and  finds  it. 

The  speed  with  which  the  business  of  a  clearing-house  is  trans- 
acted seems  almost  incredible.  The  actual  time  required  to  make  the 
exchanges  varies  from  one  and  one-half  minutes  to  ten  minutes. 
When  the  exchanges  are  made  simultaneously,  the  time  varies,  as 
a  rule,  in  proportion  to  the  number  of  members.  In  view  of  the 
shortness  of  time  required  to  make  its  exchanges,  the  New  York 
Clearing-House  affords,  perhaps,  the  best  example  in  existence  of  the 
success  of  modern  business  methods  as  compared  with  the  old  way  of 
doing  things.  The  clearances  exceed  on  the  average  $300,000,000,  and 
yet  this  enormous  amount  of  paper  is  exchanged  between  the  banks 
in  ten  minutes,  and  often  in  less  time. 


RELATIONS  BETWEEN  BANKS  107 

Clearing-houses  may  be  divided  into  two  classes  with  reference 
to  the  funds  used  in  the  settlement  of  balances:  first,  those  clearing- 
houses which  make  their  settlements  on  a  cash  basis,  and,  second, 
those  clearing-houses  which  make  their  settlements  on  some  other 
basis. 

About  17  per  cent  of  the  clearing-houses  in  the  United  States 
settle  their  balances  entirely  on  a  cash  basis.  Among  the  clearing- 
houses that  do  not  settle  with  cash  no  less  than  five  different  methods 
of  settling  are  in  vogue.  They  are  (i)  by  manager's  check  on  debtor 
banks  given  to  creditor  banks;  (2)  by  borrowing  and  loaning  balances 
without  interest;  (3)  by  borrowing  and  loaning  balances  with  interest; 
(4)  by  the  use  of  one  or  more  of  four  forms  of  certificates,  viz.,  gold 
and  currency  depository  certificates,  United  States  assistant  treasurer 
certificates,  and  clearing-house  loan  certificates;  and  (5)  by  draft 
on  another  city.  These  methods,  however,  are  often  found  in  com- 
bination. 

Where  manager's  checks  are  used  the  creditor  banks  send  clerks 
to  the  clearing-house  to  receive  the  manager's  checks.  These  may 
be  taken  to  the  debtor  banks  and  cashed,  exchanged  for  cashier's 
checks  or  drafts  on  other  cities,  or  sent  through  the  clearings  on 
another  day. 

Clearing-house  certificates  are  of  two  kinds:  those  issued  upon 
the  deposit  of  gold  coin  (and  in  New  York  City  and  Boston  on  gold 
and  silver  certificates  and  legal-tender  notes)  and  those  issued  upon 
the  deposit  of  collateral  securities.  The  former  are  employed  in 
ordinary  times  solely  as  a  method  of  economizing  time  and  labor  and 
reducing  risk  in  handling  large  sums  of  money.  The  latter  are 
employed  in  times  of  financial  disturbance  or  panic,  and  although 
both  are  intended  for  use  solely  in  the  settlement  of  balances  at  the 
clearing-house,  the  circumstances  that  call  them  forth,  the  results 
effected  by  their  use,  and  the  part  they  play  in  banking  economy 
have  little  or  nothing  in  common.  The  certificates  issued  upon  the 
deposit  of  gold,  etc.,  are  termed  "Clearing-house  certificates,"  and 
those  issued  upon  the  deposit  of  collateral  security  are  very  properly 
termed  "Clearing-house  loan  certificates." 

Generally  speaking,  about  40  per  cent  of  the  clearing-houses  of 
the  United  States  use  drafts  on  other  cities  in  paying  their  balances. 
About  30  per  cent  settle  by  manager's  check  and  about  25  per  cent 
settle  by  cash  alone,  the  remaining  5  per  cent  settling  by  a  com- 
bination of  two  or  more  of  the  foregoing  methods. 


loS  PRINCIPLES  OF  MONEY  AND  BANKING 

50.    SPECIAL  FUNCTIONS  OF  CLEARING-HOUSES' 
By  JAMES  G.  CANNON 

The  tendency  has  been  marked,  especially  in  recent  years,  to 
include  within  the  legitimate  field  of  clearing-houses  all  questions 
affecting  the  mutual  welfare  of  the  banks  and  the  community  as  a 
whole.  The  most  important  of  the  special  functions  of  a  clearing- 
house are  (a)  the  extending  of  loans  to  the  Government,  (b)  mutual 
assistance  of  members,  (c)  fixing  uniform  rates  of  interest  on  deposits, 

(d)  fixing  uniform  rates  of  exchange  and  of  charges  on  collections, 

(e)  the  issue  of  clearing-house  loan  certificates,  and  (/)  examining 
individual  banks, 

a)  Less  than  a  decade  after  the  inauguration  of  the  clearing- 
house system  in  America  the  Civil  War  broke  out  and  threw  the 
Government  into  a  condition  of  acute  financial  embarrassment.  The 
ordinary  sources  of  income  were  insufficient  to  meet  the  demands  of 
the  approaching  crisis.  Thereupon  the  banks,  members  of  the 
clearing-houses  in  New  York  and  Boston,  responded  with  practical 
unanimity  to  the  call  of  the  Government  for  loans,  by  which  the  latter 
was  enabled  to  put  armies  into  the  field  and  maintain  the  struggle 
for  national  unity. 

b)  In  times  of  panic  it  is  not  infrequently  the  case  that  a  bank 
in  good  standing  becomes  temporarily  embarrassed.  Unfortunate 
report  may  cause  a  run  on  it,  and,  being  unable  to  call  in  a  sufficient 
amount  of  its  outstanding  loans  to  meet  the  demands  of  its  frightened 
depositors,  it  must  either  secure  a  loan  or  fail.  In  such  an  emergency 
the  other  members  of  the  clearing-house  are  usually  willing  to  render 
assistance  until  the  strain  is  relaxed.  To  secure  such  aid,  however, 
a  bank  must  be  sound  in  its  management  and  of  good  repute  in  every 
respect.  Otherwise  the  members  of  the  clearing-house  are  likely  to 
decline  assistance,  being  quite  willing  to  get  rid  of  a  weak  and  ill- 
managed  member. 

c)  Another  of  the  special  functions  of  a  clearing-house  is  the  fixing 
of  uniform  rates  of  interest  on  deposits,  and  in  a  few  instances  on 
loans.  In  some  associations  the  legality  of  such  action  is  still  regarded 
as  a  moot  question,  and  hence  they  are  reluctant  to  enforce  such  a  rule. 
Other  associations,  however,  have  not  hesitated  to  regulate  the  mem- 
bers on  these  points.     As  early  as  iSSi  rates  of  interest  were  agreed 

'Adapted  from  Clcaring-Houses,  pp.  11-22,  139-49.  (National  ]\Ionetary 
Commission,  1910.)' 


RELATIONS  BETWEEN  BANKS  1 09 

upon  in  Buffalo,  and  were  observed  practically  without  friction  or 
violation  for  some  nine  years  thereafter.  They  were  broken  at  last 
only  because  of  their  non-observance  by  new  banks,  which  at  the 
outset  refused  to  become  members  of  the  clearing-house  organization. 

The  Sioux  City  Clearing-House  Association  has  fixed  a  maximum 
rate  of  interest  of  2  per  cent  per  annum,  to  be  paid  by  the  members 
upon  bank  accounts  or  balances,  and  on  time  certificates  of  deposit 
3  per  cent.  Without  any  special  clearing-house  regulation  on  the 
subject,  it  is  generally  understood  by  the  banks  that  6  per  cent  is 
the  minimum  rate  that  shall  be  charged  on  first-class  loans,  and 
that  the  rate  shall  range  from  that  to  8  per  cent,  according  to  the 
character  of  the  risk. 

At  St.  Joseph,  Missouri,  the  clearing-house  rules  provide  that 
interest  (not  naming  the  rate)  may  be  paid  on  balances  to  banks,  bank- 
ers, trust  companies,  the  St.  Joseph  Cattle  Loan  Company,  deposits 
of  the  Government,  State,  county,  city,  etc.,  or  to  individuals,  firms, 
corporations,  not  located  or  doing  business  in  St.  Joseph  or  Buchanan 
County,  but  that  no  interest  may  be  paid  to  individuals,  firms,  or 
corporations  located  or  doing  business  in  St.  Joseph  or  Buchanan 
County,  except  by  unanimous  consent.  Trust  companies  may  pay 
interest  on  checking  accounts  at  the  rate  of  2  per  cent  per  annum, 
while  savings  banks,  trust  companies,  and  savings  departments  of 
commercial  banks  may  pay  interest  on  savings  accounts,  at  a  rate  not 
to  exceed  3  per  cent.  Interest  is  not  allowed  on  demand  or  time 
certificates  for  a  less  period  than  six  months,  and  then  at  the  rate  of 
three  per  cent  per  annum.  No  interest  is  allowed  for  any  fractional 
part  of  a  six  months'  period. 

The  banks  of  Savannah,  Georgia,  under  clearing-house  regulation, 
may  pay  interest  not  to  exceed  3  per  cent  on  individual  accounts, 
and  then  only  when  the  balances  in  such  accounts  exceed  §25,000. 
On  bank  balances  without  limitation  as  to  amount  they  may  pay 
not  to  exceed  3  per  cent. 

The  question  of  clearing-house  regulation  of  the  rates  to  be 
charged  on  local  loans  has  been  considered  by  many  associations  in 
different  parts  of  the  country,  but,  generally  speaking,  has  not  met 
with  much  favor.  It  is  quite  evident  that  on  this  one  point  the 
individual  banks  are  jealous  of  their  prerogative  to  loan  their  money 
at  whatever  rate  they  choose.  The  nearest  approach  to  clearing- 
house rate  regulation  of  loans  seems  to  be  in  the  arrangement  in  vogue 
at  Chattanooga,  Ti-nntssce,  by  which  the  minimum  rate  to  be  charged 


no  I'RIXCirLKS  OF  MONEY  AND  BANKING 

by  the  banks  in  making  their  loans  is  determined  from  time  to 
time  by  a  committee  appointed  by  the  associated  banks  for  that 
purpose. 

d)  Still  another  of  the  special  functions  of  a  clearing-house  is  the 
fixing  of  uniform  rates  of  exchange  and  of  charges  on  the  collection 
of  items.  In  1881,  the  year  in  which  the  clearing-house  in  Bufifalo 
was  organized,  a  prominent  banker  in  that  city  succeeded  in  uniting 
the  banks  on  rates.  The  promoter  of  the  enterprise,  though  well 
known  for  rate  cutting,  was  a  successful  banker  and  had  always  been 
able  to  meet  competition  successfully.  Hence,  when  he  proposed  a 
uniform-rate  system  the  other  banks  were  only  too  glad  to  consider 
his  propositions.  Meetings  were  accordingly  held,  schedules  of 
charges  were  drawn  up,  and  rules  were  formulated  for  the  guidance 
of  the  banks.  In  a  short  time  a  schedule  was  adopted  and  put  into 
successful  operation.  The  rates  were  not  high,  but  were  arranged 
so  as  to  do  justice,  as  far  as  possible,  to  the  banks  on  the  one  hand  and 
the  depositors  on  the  other,  and  so  satisfactory  was  the  new  regime 
that  it  remained  in  harmonious  operation  for  nearly  nine  years.  It 
is  said  that  the  increase  in  profits  or  collections,  to  the  twelve  banks 
interested,  over  the  former  method  of  doing  business  free  of  charge, 
paid  the  dividends  of  all  the  banks  each  year,  and  whatever  profit 
was  made  on  loans  and  discounts  was  used  to  build  up  the  surplus. 
But  the  formation  of  new  banks  finally  played  havoc  with  the  uniform- 
rate  system.  While  it  lasted  it  was  made  obligatory  upon  every 
bank,  but  in  1891  the  newly  organized  banks  began  to  cut  on  rates. 
The  clearing-house  members  endeavored  to  induce  the  new  banks  to 
join  the  association,  but  did  not  at  first  succeed.  It  was  regarded 
as  unjust  to  the  member  banks  to  hold  them  to  the  existing  agreement 
when  their  competitors  were  free,  and  accordingly,  in  June,  1891,  the 
schedule  of  rates  was  made  no  longer  obligatory. 

In  1895  the  Rochester  (New  York)  Clearing-House  Association 
put  into  operation  a  schedule  of  collection  charges,  and  the  results 
have  been  most  satisfactory.  All  of  the  banks  were  in  favor  of  it, 
though  there  was  at  first  some  complaint  on  the  part  of  customers. 

Up  to  a  comparatively  short  time  ago  no  other  association  in  the 
country  had  approached  that  of  St.  Joseph  in  the  detail  with  which 
it  worked  out  a  system  of  regulations  governing  the  conduct  of  its 
members  in  regard  to  making  collections.  In  the  past  few  years, 
however,  considerable  attention  has  been  given  to  the  subject  by  the 


RELATIONS  BETWEEN  BANKS  ill 

several  associations,  with  the  result  that  between  50  and  60  per  cent 
of  all  the  clearing-houses  in  the  United  States  are  now  working  under 
comprehensive  rules  and  regulations  covering  the  collection  of  items 
which  come  under  this  head. 

e)  One  of  the  most  important  of  the  special  functions  of  the 
clearing-houses,  to  which  attention  may  be  briefly  called,  is  the  issue  of 
clearing-house  loan  certificates  in  times  of  panic.  By  this  means,  in 
some  cases,  the  specie  reserves  of  the  clearing-house  members  have  been 
combined  in  a  way  to  become  a  common  fund,  so  that  any  bank  that 
experienced  an  unusual  demand  for  specie  was  supported  by  the 
combined  reserves  of  all  the  banks.  The  bank  thus  assisted  secures 
the  other  members  against  loss  by  depositing  with  a  committee 
appointed  for  the  purpose  of  receiving  them  its  securities  in  the 
shape  of  stocks,  bonds,  and  bills  receivable.' 

/)  A  recently  developed  function  of  clearing-houses  is  the  examina- 
tion of  banks  in  the  association  in  an  effort  to  supplement  the  work 
of  federal  and  state  bank  examiners  in  their  efforts  to  reduce  bank 
failures  to  a  minimum.  Chicago  was  the  pioneer  in  the  field,  its 
system  of  clearing-house  examinations  being  inaugurated  on  June  i, 
1906,  as  a  direct  result  of  the  failure  of  the  Walsh  banks  the  preceding 
autumn. 

The  examinations  extend  to  all  the  associated  banks  of  Chicago 
and  to  all  non-member  institutions.  The  examinations  include,  be- 
sides a  verification  of  the  assets  and  liabilities  of  each  bank,  so  far  as 
is  possible,  an  investigation  into  the  workings  of  every  department, 
and  are  made  as  thorough  as  is  practicable.  After  each  examination 
the  examiner  prepares  a  detailed  report  in  duplicate,  describing  the 
bank's  loans,  bonds,  investments,  and  other  assets,  mentioning  spe- 
cially all  loans,  either  direct  or  indirect,  to  oflicers,  directors,  or 
employees,  or  to  corporations  in  which  they  may  be  interested.  The 
report  also  contains  a  description  of  conditions  found  in  every  depart- 
ment. One  of  these  reports  is  filed  in  the  vaults  of  the  clearing-house, 
in  the  custody  of  the  examiner,  and  the  other  is  handed  to  the  examined 
bank's  president  for  the  use  of  its  directors.  This  system  has  spread 
rapidly  and  is  now  in  vogue  in  more  than  a  score  of  the  larger  cities 
of  the  country.  Everywhere  it  appears  to  have  been  eminently 
successful. 

'  See  Selection  No.  94. — Editor. 


Hi  I'RIXCII'LKS  OF  ,MO.\i:V  A\l>   ll.\.\K].\(; 

Various  clearing-houses  in  diflerent  parts  of  Ihc  country  have 
incorporated  into  their  rules  and  regulations  certain  special  features, 
some  of  which  are  worthy  of  mention.  For  instance,  at  Altoona, 
Pennsylvania,  it  is  the  duty  of  the  associated  members  to  report  to 
the  secretary  of  the  association  any  flagrant  violation  of  commercial 
or  financial  integrity  on  the  part  of  anyone  having  business  relations 
with  them.  Furthermore,  the  solicitation  of  accounts  of  other 
members  is  prohibited,  and  any  members  having  accounts  of  the 
same  depositors  shall  have  the  right  of  ascertaining,  each  from  the 
other,  the  extent  and  character  of  the  loans  made  to  such  depositor. 
It  is  also  provided  that  when  a  depositor  of  any  member  bank  applies 
to  another  member  for  a  loan  the  member  so  applied  to  shall  have 
the  right  to  ascertain  from  the  applicant's  bank  whether  the  loan 
had  been  previously  offered  there  and,  if  refused,  the  reason  for 
refusal. 

At  Philadelphia,  Pennsylvania,  Chester,  Pennsylvania,  and  Wil- 
mington, Delaware,  it  is  provided  that  the  associated  banks  shall 
report  at  once  to  each  other  the  names  of  individuals,  firms,  or  cor- 
porations whose  accounts  have  been  closed  on  account  of  overdrawing, 
depositing  worthless  checks,  or  otherwise  defrauding  them. 

The  associated  banks  of  MinneapoUs,  by  special  agreement,  but 
not  by  constitutional  provision,  have  appointed  an  advertising 
committee,  of  which  the  manager  of  the  clearing-house  is  the  chair- 
man, to  which  is  submitted  all  general  schemes  of  advertising.  The 
schemes  are  submitted  in  writing  to  the  committee  by  the  soUcitor  and 
action  taken  thereon.  Many  of  these  propositions  are  rejected,  and 
what  is  known  as  clearing-house  advertising  appears  only  in  the  best 
mediums.  The  claim  is  made  that  this  concerted  action  serves  to 
secure  much  better  rates  and  does  not  preclude  any  bank  from  placing 
advertisements  in  any  other  direction  it  desires.  Chattanooga, 
Tennessee,  and  Fort  Wayne,  Indiana,  also  have  made  provision 
regulating  the  placing  of  advertisements  by  their  member  banks. 
The  regulations  of  the  Portland  (Maine)  Association  state  that  no 
member  shall,  by  advertisement,  circular  letter,  or  publication,  reflect 
unfavorably  upon  the  responsibility  of  another  member. 

The  constitution  of  the  Rochester  Clearing-House  Association 
provides  that  members  are  prohibited  from  offering  a  higher  rate 
of  interest  to  induce  a  customer  to  change  his  account  from  one  bank 
to  another  or  as  an  offset  against  collection  charges. 


RELATIONS  BETWEEN  BANKS  113 

51.    CLEARINGS  OF  NON-MEMBER  BANKS  IN  CHICAGO 
By  JAMES  G.  CANNON 

Besides  the  regular  members  there  are  about  forty  non-member 
banks  clearing  through  the  Chicago  Clearing-House.  In  other 
words,  there  is  an  average  of  two  to  each  member.  Most  of  those 
clearing  in  this  way  are  private  banks  and  trust  companies. 

Up  to  January,  1907,  the  Chicago  Clearing-House  exacted  no 
compensation  for  permitting  outside  institutions  to  clear  through 
its  members.  About  that  time  an  amendment  was  added  to  the 
constitution  making  it  imperative  for  a  member  bank  to  first  obtain 
the  consent  of  the  clearing-house  committee  before  it  could  clear  for 
an  outside  institution,  and  further  obhgated  such  a  member  to  pay 
as  follows :    For  each  bank  having  a  capital  of — 

More  than  $      25,000  and  less  than  $       50,000 $150 

More  than         50,000  and  less  than-       200,000 250 

More  than       200,000  and  less  than        400,000 350 

More  than       400,000  and  less  than        600,000 450 

More  than       600,000  and  less  than     1,000,000 600 

Exceeding     i  ,000,000    700 

The  amendment  further  provided  that  such  banks  and  bankers 
should,  under  proper  authority,  consent  to  the  same  examinations 
and  render  the  same  statements  of  their  condition  as  are  required  of 
the  members  of  the  association,  and  be  subject  to  all  such  rules  and 
regulations  in  matters  of  common  interest  arising  from  or  affecting 
relations  with  banks  in  other  localities,  and  the  fostering  of  sound 
and  conservative  methods  of  banking,  as  have  been  or  may  from 
time  to  time  be  adopted  by  the  association,  and  sign  an  agreement 
so  to  do  in  such  form  as  the  clearing-house  committee  may  require. 

B.     The  System  as  a  Whole 

(i)  GENERAL  RELATIONS 

52.    COLLECTING  OUT-OF-TOW^N  CHECKS* 

By  JAMES  G.  CANNON 

It  is  evident  that  a  bank  receives  from  its  customers  in  the  daily 
course  of  business  checks  drawn  on  banks  in  distant  towns  and  cities, 
but  before  a  bank  can  realize  any  return  from  such  checks  it  must 

'  Adapted  from  Clearing-Hotiscs,  pp.  288-89.  (National  Monetary  Commis- 
sion, 19 10.) 

^  Ibid.,  pp.  59-78. 


114  I'RINCII'LKS  OF  MONKY  AND  BANKING 

colled  them.  That  is,  it  must  send  them  to  the  banks  upon  which 
they  are  drawn,  or  to  some  near-by  bank  which  will  act  as  its  agent, 
for  [)ayment.  For  the  purpose  of  collecting  or  clearing  these  foreign 
checks  the  clearing-house  is  not  available.  Checks  and  drafts 
received  by  a  member  of  a  clearing-house  drawn  upon  some  bank 
located  at  a  distance,  and  not  a  member,  nor  clearing  through  a 
member,  are  regarded  as  improper  matter  for  clearing. 

The  charges  made  by  banks  for  exchange  are  usually  extremely 
vexing  to  customers,  and  to  the  layman  appear  indeed  quite  unreason- 
able. It  is  obvious,  however,  that  the  banks  are  asked  to  perform 
an  important  service  for  their  customers.  When  A,  who  lives  at  a 
distance  from  a  financial  center,  buys  a  bill  of  goods  from  B,  living  in 
the  city,  and  sends  a  check  drawn  on  his  local  bank  for  payment  of 
the  amount,  he  subjects  someone  to  the  expense  of  collecting  the 
check,  and,  further,  someone  is  out  the  use  of  the  money  until  the 
collection  has  been  made. 

For  instance,  a  check  on  a  bank  in  Massillon,  Ohio,  presented  for 
payment  in  New  York  City  might  be  sent  to  a  bank  in  Cleveland, 
which  in  turn  would  send  the  check  to  the  Massillon  bank  for 
collection.  In  an  actual  case  like  this  two  checks  had  to  be  drawn, 
four  letters  had  to  be  written,  8  cents  in  postage  stamps  were  used, 
and  seventy-five  or  more  handlings  of  the  check  were  involved  by 
a  score  or  so  of  clerks,  in  five  different  banks,  located  in  three 
different  cities. 

It  would  seem  that  the  banks  could  not  be  expected  to  advance 
funds  pending  collection;  but  the  competition  among  the  financial 
institutions  in  the  larger  cities  is  so  keen  that  the  bank  does  not  stand 
upon  its  rights  and  insist  that  the  check  shall  be  held  for  collection  and 
credited  to  B's  account  only  when  collected,  but  passes  it  to  his  credit 
at  once  through  fear  that  he  will  withdraw  his  account  and  deposit 
with  some  other  bank  that  will  extend  that  accommodation  to  him. 
This  practice  is  quite  general. 

During  the  past  few  years  great  strides  have  been  made  by  the 
clearing-houses  throughout  the  country  in  the  matter  of  establishing 
uniform  rates  for  the  collection  of  country  checks,  and  at  the  present 
time  there  are  few  associations  in  the  United  States  that  have  not 
some  sort  of  a  schedule  for  this  purpose,  however  crude  it  may  be. 


RELATIONS  BETWEEN  BANKS 


115 


53.    LOST  MOTION  IN  COLLECTING  CHECKS' 
By  JAMES  C.  HALLOCK 

I.  A  check  for  less  than  $50  on  Stonington,  Conn.,  started  at 
Westerly,  R.I.,  six  miles  from  Stonington,  which  it  reached  only 
after  many  days  and  a  thousand  miles  of  travel  by  the  following 
route:  Westerly  to  Providence,  Providence  to  Boston,  Boston  to 
New  York,  New  York  to  Boston  again,  but  to  another  bank;  Boston 
to  New  York  again,  but  to  another  bank;  New  York  to  New  Haven, 
New  Haven  to  Saybrook,  Saybrook  to  New  London,  and  New 
London  to  Stonington.  It  passed  through  Boston  twice.  New  York 
twice,  and  New  Haven  four  times.  It  was  put  through  nine  banks, 
two  of  them  in  Boston  and  two  in  New  York. 

The  following  diagram  pictures  the  circuitous  journey: 


BOSTON 


WEW  have: 


PROVIDINCE 


♦WESTERLY 
STOWINCTOIV 


NEW   VORK 

^Clearing  Oul-of-Town  Checks,  pp.  12  and  21.     (Copyright  by  the  author,  1903.) 


ii6 


TRINCIPLES  OF  MONEY  AND  BANKING 


2.  A  check  drawn  in  Hoboken  and  payaljle  to  a  Sag  Harbor  firm, 
visited  New  York,  Boston,  Tonawanda,  Albany,  Port  Jefferson,  Far 
Rockaway,  New  York  again,  Riverhead,  and  Long  Island  City. 

The  journey  was  as  shown  in  the  diagram  below : 


k  ALBA  NY  5 


BOSTON.a 


FAR  ROCK  AW  AY7 


IVET^HEAD.g. 


SAG  HARBOR,  n. 


54.    CORRESPONDENT  RELATIONS  BETWEEN  BANKS^ 
By  WILLIAM  A.  SCOTT 

Banks  are  the  chief  agencies  for  the  conduct  of  exchanges  between 
persons  who  do  not  reside  in  the  same  place.  If  a  person  buys  goods 
beyond  the  limits  of  his  home  town  he  often  pays  for  them  by  sending 
a  draft  purchased  from  a  local  bank  and  drawm  either  upon  a  bank  in 
the  place  in  which  the  goods  were  purchased  or  upon  a  bank  in  some 
other  place  which  has  frequent  business  relations  with  this  one.  In 
order  to  render  this  service  to  their  customers  banks  are  obliged 
to  keep  funds  on  deposit  in  other  cities,  not  necessarily  in  every  city  in 
which  the  customers  may  desire  to  do  business,  but  in  certain  com- 
mercial centers  through  the  banks  of  which  arrangements  may  be 
made  for  the  conduct  of  exchanges  with  any  place  desired.  The 
banks  selected  for  this  purpose  in  this  country  are  usually  called 
correspondents.     In  countries  in  which  branch  banking  is  practiced 

'  Adapted  from  Money  and  Banking,  pp.  11 7-21.     (Henry  Holt  &  Co.,  1910.) 


RELATIONS  BETWEEN  BANKS  I17 

a  great  deal  of  business  of  this  kind  is  conducted  between  the  central 
institution  and  its  various  branches. 

By  way  of  illustration  let  us  consider  the  way  in  which  a  small 
city  in  Wisconsin  conducts  its  exchanges  with  the  outside  world.  We 
may  assume  that  its  banks  have  correspondents  in  Milwaukee, 
Chicago,  and  New  York.  Its  out-of-town  business  results  from  the 
purchase  and  sale  of  goods  and  the  adjustment  of  credit  relations 
between  its  inhabitants  and  outsiders.  Purchasers  of  outside  goods 
will  pay  for  them  by  sending  checks  on  a  local  banker,  by  buying 
drafts  on  Milwaukee,  Chicago,  or  New  York,  provided  exchange  on 
these  places  is  acceptable  to  their  customers,  or,  if  not  acceptable,  on 
other  places,  such  drafts  being  furnished  by  the  correspondents  of  the 
local  bank.  These  payments  do  not  necessarily  correspond  in  time 
with  the  purchases.  Some  are  deferred.  On  a  particular  date  the 
demand  for  exchange  due  to  purchases  comes  from  those  made  on 
time  in  the  past,  the  payment  for  which  falls  due  on  that  date  and 
includes  those  made  on  a  cash  basis.  To  this  demand  must  be  added 
that  arising  from  the  adjustment  of  credit  relations  with  outsiders. 
Under  this  head  belong  loans  made  to  outsiders  and  investments  in 
outside  enteqjrises.  Gifts  to  outsiders  or  transfers  of  property  from 
any  cause  would  also  add  to  this  demand. 

To  meet  these  drafts  the  banks  have  the  checks,  drafts,  bills  of 
exchange,  etc.,  drawn  on  outside  institutions  and  sent  to  the  city  in 
payment  for  goods  sold,  on  account  of  loans,  gifts,  and  other  transfers 
of  property  to  citizens  and  on  account  of  investments  of  outsiders  in 
local  enterprises.  These  credit  instruments  are  deposited  with  the 
local  banks  and  sent  by  them  to  their  correspondents  for  collection. 
Whether  or  not  they  will  be  sent  to  Milwaukee,  Chicago,  or  New  York, 
or  distributed  between  the  three  places,  will  depend  in  part  upon  the 
location  of  the  banks  on  which  these  instruments  are  drawn  or  at 
which  they  are  payable  and  in  part  upon  the  condition  of  the  local 
banks'  accounts  with  their  correspondents.  Instruments  drawn  on 
Milwaukee  or  on  banks  in  towns  which  do  their  banking  business 
chiefly  through  Milwaukee  will  usually  be  sent  to  correspondents  in 
that  city,  and  the  others,  on  the  same  principle,  to  Chicago  and 
New  York  correspondents.  Certain  checks  and  drafts  may  be  indilTer- 
ently  sent  to  either  place,  in  which  case  the  condition  of  the  banks' 
balances  in  these  three  centers  will  determine  the  distribution. 

It  is  obvious  that  on  a  given  date  the  bala'nce  between  the  drafts 
made  by  the  banks  of  a  town  on  their  correspondents  and  the  credits 


llS  I'RINCIIM.KS  OF  MONKY  AND  BANKING 

made  in  their  favor  through  collections  and  deposits  of  checks  and 
drafts  may  be  in  their  favor  or  against  them.  In  the  former  case  their 
balances  with  their  correspondents  will  increase  and  in  the  latter 
case  decrease.  A  succession  of  favorable  balances  might  result  in 
large  accumulations  and  a  succession  of  unfavorable  balances  in  the 
overdrawing  of  their  accounts.  The  existence  of  such  balances 
renders  possible  the  movement  of  money  from  one  place  to  another, 
since  the  creditor  banks  may  demand  from  the  debtor  banks  payment 
in  cash.  Whether  or  not  they  will  do  so  depends  upon  their  ability 
profitably  to  use  at  home  more  cash  than  they  already  have,  and  this 
depends  upon  the  relative  local  and  outside  demand  for  loans  and 
hand-to-hand  money.  When  banks  are  loaning  heavily  to  local 
customers,  their  deposits  increase  and  more  cash  is  needed  in  the 
reserves,  and  when  there  is  an  increased  demand  for  hand-to-hand 
money,  a  relatively  larger  number  of  checks  are  presented  for  encash- 
ment, and  they  are  obliged  to  increase  the  percentage  of  reserves  to 
deposits  unless  .they  are  able  to  meet  this  demand  by  increased  issues 
of  notes,  a  resource  not  open  to  the  banks  of  the  United  States  under 
existing  conditions.  If  the  home  demand  for  loans  and  for  hand-to- 
hand  money  does  not  justify  the  banks  in  calling  for  shipments  of 
currency  from  their  correspondents,  they  may  loan  surplus  funds  in 
the  cities  in  which  their  correspondents  are  located,  or  in  other  cities, 
or  leave  them  on  deposit  with  correspondents  at  such  a  rate  of  interest 
as  may  be  agreed  upon.  In  this  case  these  funds  will  be  loaned  by 
the  correspondents  instead  of  by  the  local  banks,  and  the  rate  of 
interest  paid  by  them  will  be  sufficiently  below  the  local  rate  to 
guarantee  a  fair  profit  on  the  transaction.  In  case  the  home  demand 
for  loans,  or  cash,  or  both,  exceeds  the  funds  banks  have  at  hand  or 
on  deposit  with  their  correspondents,  they  may  arrange  with  the 
latter  for  overdrawing  their  accounts,  either  by  drawing  drafts 
upon  them  without  sending  exchange  or  cash  sufficient  to  pay  them, 
or  by  ordering  shipments  of  currency  to  them  in  case  the  need  is  for 
hand-to-hand  money  rather  than  credit.  Correspondents  will  grant 
such  accommodations  only  on  condition  of  the  payment  of  a  rate  of 
interest  on  adverse  balances  equal  to  or  in  excess  of  the  local  rate 
plus  the  expenses  of  the  transaction. 

55.    THE  CONCENTRATION  OF  MONEY  IN  GREAT 
FINANCIAL  CENTERS 

It  has  been  the  theory  of  our  national,  banking  system  to  permit 
a  depositing  of  reserves  by  the  banks  of  smaller  cities  in  the  banks  of 


RELATIONS  BETWEEN  BANKS  IIQ 

larger  cities.  For  instance,  country  banks  have  been  allowed  to  keep 
three-fifths  of  tJieir  required  reserve  in  correspondent  banks  in  the 
financial  centers.  The  practice  is  quite  general  for  these  banks  to  loan 
this  reserve  at  a  small  rate  of  interest  (2  per  cent)  to  the  larger  city 
banks,  particularly  in  New  York,  where  they  are  used  in  the  making  of 
call  loans  to  stock-exchange  speculators. 

In  addition  to  loaning  their  legal  reserves  the  outlying  banks  also 
loan  additional  funds  to  New  York  and  other  city  banks  during  periods 
of  slack  business  in  the  country.  Otherwise  idle  funds  are  thereby 
given  temporary  employment  while  remaining  subject  to  call  for 
more  remunerative  investment  as  soon  as  occasion  offers.  Sometimes 
instead  of  redepositing  these  funds  in  banks  in  the  money  centers 
they  are  simply  sent  to  brokers,  who  offer  them  as  loans  at  the  best 
rates  obtainable. 


56.    EXAJVIPLES  OF  RAPID  CONCENTRATION  OF  FUNDS' 
By  FRED  M.  TAYLOR 

The  experience  of  the  country  as  a  whole  with  reference  to  cur- 
rency movements  is  duplicated  on  a  small  scale  between  every  trad- 
ing center  and  the  territory  immediately  dependent  upon  it.  For 
example,  some  years  ago  in  a  certain  Michigan  village  which  had  a 
factory  with  a  pay  roll  of  $2,000  per  week,  it  proved  necessary  for 
the  local  bank  to  bring  out  the  $2,000  in  cash  from  Detroit  practically 
every  week  in  the  year.  That  is,  the  $2,000,  having  been  paid  to  the 
workmen,  instead  of  remaining  in  the  village  ready  for  use  the  next 
week,  before  the  time  was  up  found  its  way  into  Detroit,  from  which 
it  had  to  be  taken  back  by  the  banker. 

Another  rather  striking  illustration  of  this  principle  comes  from 
the  copper  country  of  Michigan.  There  the  banks  are  every  month 
called  upon  by  a  great  mining  company  to  furnish  many  thousands  of 
dollars  in  fifty-dollar  bills,  and  these  bills  have  to  be  shipped  in  from 
Chicago  or  New  York,  not  once,  but  every  time.  This  seems  very 
strange.  One  would  suppose  that  those  bills  which  were  shipped  in 
and  used  in  January  would  drift  back  to  the  banks  and  be  ready  for  a 
second  job  in  February.  But  not  so;  when  February  comes  around 
the  bills  have  all  disappeared,  and  the  operation  of  shipping  in  has  to 
be  repeated.     And  this  goes  on  indefinitely 

'  Adapted  from  Some  Chapters  on  Money,  pp.  139-40.  (Copyright  by  the 
author,  1906.) 


I20  PRINCIPLES  OF  MONEY  AND  BANKING 

57.    NEW  YORK,  THE  GREAT  FINANCIAL  CENTER' 
By  O.  M.  W.  SPRAGUE 

The  significance  of  the  New  York  money  market  in  our  banking 
system  is  not  fully  recognized.  It  is  indeed  generally  understood 
that  the  practice  of  depositing  reserves  with  agents  in  the  money 
centers  places  a  severe  strain  upon  them  in  emergencies,  and  it  is  well 
known  that  the  New  York  banks  have  acquired  a  large  share  of  such 
deposits.  The  enormous  responsibilities  resting  upon  the  New  York 
banks  on  this  account  may  be  seen  from  the  following  statistics:  On 
September  i,  1909,  the  New  York  banks  held  more  than  43  per  cent 
of  the  net  bankers'  deposits  of  the  country.  Compared  with  the 
banks  of  Chicago  and  St.  Louis  their  obligations  to  bankers  were 
almost  three  times  as  great. 

Large  New  York  balances  are  necessary  because  New  York  is  the 
clearing-house  of  the  country.  In  this  connection  certain  statistics 
gathered  by  the  Comptroller  of  the  Currency  nearly  twenty  years  ago 
have  great  significance.  From  information  provided  by  3,329  of 
the  3,438  national  banks  it  was  found  that  in  1890  all  but  three 
drew  drafts  upon  New  York,  and  that  the  total  amount  of  such  drafts 
was  61 .31  per  cent  of  all  the  drafts  drawn  upon  all  the  banks  of  the 
country.  In  the  case  of  the  Chicago  banks  the  amount  drawn  was 
but  9.82  per  cent  of  the  total.  The  Chicago  banks  drew  upon  New 
York  for  $222,000,000  and  were  drawn  upon  in  return  for  but  $82,000. 
These  figures  show  very  clearly  how  indispensable  is  the  maintenance 
of  payments  by  the  New  York  banks  if  the  dislocation  of  the  domestic 
exchanges  is  to  be  avoided. 

58.    PAYING  INTEREST  ON  DEPOSITS  AND  BANK 
COMPETITION^' 

By  GEORGE  S.  COE 

The  payment  of  interest  on  deposits  of  money  payable  on  demand 
is  open  to  the  gravest  objections.  This  subject  has  upon  several 
occasions  in  years  past  been  under  consideration,  and  its  total  abolition 
has  been  almost  unanimously  agreed  to  among  our  banks  by  written 
contract.  Yet  by  the  refusal  of  one  or  more  members  it  has  failed 
to  become  a  binding  obligation.     Like  some  other  great  reforms,  this 

'  Adapted  from  "Proposals  for  Strengthening  the  National  Banking  System," 
Quarterly  Journal  of  Economics,  XXIV  (1909-10),  219-20. 

'  Adapted  from  an  address  before  the  New  York  Clearing-House  Association, 
June  4,  1884  {Bankers'  Magazine,  New  York,  LVI  [1884],  pp.  44-50- 


RELATIONS  BETWEEN  BANKS  121 

one  does  not  admit  of  partial  application  or  of  compromise.  Any 
attempt  to  make  exceptions  to  the  prohibition  among  partners 
mutually  dependent  can  only  result  in  entirely  releasing  them  all 
from  any  obligation  respecting  it.  Yet  every  banker  will  freely 
admit  that  the  purchase  of  deposits  payable  on  demand  operates, 
in  some  degree,  as  an  absolution  of  the  obligation  to  be  always  in 
condition  to  meet  the  contract.  Both  the  giver  and  receiver  of  inter- 
est on  such  deposits,  by  the  nature  of  the  business,  substantially, 
though  not  expressly,  agree  to  such  use  of  the  money  as  may  prevent 
its  immediate  return. 

What  is  the  nature  of  bank  deposits  ?  Every  responsible  person 
in  regulating  his  own  affairs  must  withhold  from  permanent  invest- 
ment and  keep  in  hand  enough  ready  money  for  his  current  wants. 
This  is  his  reserve.  When  such  sums,  for  greater  safety,  are  placed 
in  charge  of  another  person,  they  do  not  lose  their  essential  character; 
and  when  they  become  further  aggregated  and  pass  into  the  possession 
of  a  bank  or  banker,  they  are  still  subject  to  the  same  immediate 
wants  of  every  original  owner  for  the  very  purpose  for  which  he  set 
them  aside.  And  when  these  rivulets  of  capital  become  streams,  and 
streams  gather  into  rivers  and  flow  toward  the  ocean  until  they  reach 
this  city,  where  they  come  into  financial  relations  with  other  men  in 
other  continents,  the  parties  who  here  take  them  in  charge  assume 
new  and  accumulated  responsibilities.  They  are  subject  not  only 
to  the  necessities  of  the  people  at  home  but  also  to  the  world-wide 
influences  of  commerce. 

Is  it  not  evident  that  when  these  reserves  are  attracted  by  banks 
and  bankers  who  pay  interest  for  them  they  immediately  lose  their 
peculiar  character  and  become,  so  far,  at  once  changed  from  reserves 
into  investments,  and  that  their  original  purpose  is  greatly  reversed  ? 
The  people's  ready  cash,  by  the  very  condition  of  receiving  interest  for 
it,  necessarily  passes  through  the  banker  into  flxcd  forms  never 
intended.  Reserve  and  investment!  Idleness  and  work!  They 
are  adverse  and  irreconcilable  conditions.  It  is  true  that  in  the 
hands  of  sound  commercial  banks  some  of  these  deposit  funds  may 
be  legitimately  used  for  the  best  interests  of  society,  in  the  negotiation 
of  business  notes  representing  articles  of  human  want  and  subsistence, 
passing  from  production  into  consumption.  This  is  using  the  fund  by 
promoting  the  very  object  for  which  each  person  originally  provided 
it.  But  such,  we  all  know,  is  not  the  tendency  nor  the  operation  of 
the  practice  now  in  question.  Money  payable  on  demand  with  inter- 
est is  chiefly  loaned  licre  upon  fixed  property  intendal  for  permanent 


122  PRINCIPLES  OF  MONEY  AND  BANKING 

investment  and  upon  bonds,  stocks,  and  other  obligations  made  for  the 
construction  of  public  enterprises  and  works  of  established  purpose, 
whose  large  expenditures  are  not  again  resolvable  into  money.  They 
are  in  their  nature  fixed,  and  they  demand,  not  their  ready  cash 
reserve,  but  the  permanent  savings  of  the  people  to  construct  them. 
So  that  temporary  loans  of  reserved  capital  upon  such  securities 
are  certain  to  be  called  in  when  they  are  hardest  to  pay,  because  the 
ready-money  reserves  so  injudiciously  absorbed  by  them  are  called 
back  by  their  owners  in  apprehension  or  for  the  supply  of  their  own 
needs. 

Deposits  so  unnaturally  attracted  are  necessarily  capricious  and 
transitory.  They  fly  away  at  the  first  whisper  of  danger,  to  the 
detriment  of  the  many  who  have  touched  them.  Those  banks  which 
so  purchase  them  are  objects  of  special  dread  to  their  colleagues  in 
business,  while  at  the  same  time  they  are  continually  held  up  as 
patterns  of  enterprise  and  as  models  for  imitation.  Differing  so 
widely  from  their  associates  in  principle  and  in  practice,  the  two 
cannot  work  harmoniously  together,  nor  equally  and  honorably 
share  the  burdens  of  a  national  financial  system  whose  stability 
requires  the  New  York  banks  voluntarily  to  stand  firmly  and  com- 
pactly together  as  one  united  body. 

Experience  among  ourselves  has  again  and  again  proved  that  the 
interest-paying  banks  are  the  first  to  become  embarrassed  by  any 
kind  of  financial  disturbance,  even  if  they  themselves  are  not  the 
means  of  producing  it,  and  that  they  are  then  almost  alone  in  being 
compelled  to  seek  protection  from  the  loan  committee  by  a  pledge  of 
their  securities. 

Will  a  few  members  of  this  association,  on  the  one  hand,  longer 
continue  a  practice  that  subjects  them  to  this  humiliation  ?  And  is  it 
just,  on  the  other,  for  a  large  majority  to  tacitly  submit  to  having  their 
business  thus  drawn  away  and  the  community  periodically  dis- 
turbed by  associates  whom,  in  the  hour  of  peril,  they  are  compelled 
for  their  own  protection  to  support? 

59.    REDISCOUNTING  BY  NATIONAL  BANKS* 
By  LAWRENCE  O.  MURRAY 

While  the  banks  are  assumed  to  have  sufficient  capital,  surplus, 
profits,  and  deposits  to  take  care  of  the  business  of  the  community  in 

'  Adapted  from  a  letter  quoted  in  an  unpublished  thesis  by  Joseph  J.  Klein, 
entitled  The  Development  of  Mercantile  Instruments  of  Credit  in  the  United  States 
(igii). 


RELATIONS  BETWEEN  BANKS  1 23 

which  they  are  located,  they  often  rediscount  notes,  as  is  shown  by 
their  pubUshed  statements,  and  their  right  to  do  so  has  been  recog- 
nized by  the  courts.  This  may  be  necessary  because  of  an  unusual 
withdrawal  of  deposits,  an  unusual  demand  for  loans  by  their  cus- 
tomers, and  possibly,  in  rare  instances,  to  make  good  their  reserve. 
Rediscounting  when  practical  shows  a  rather  strong  seasonal  swing 
with  the  larger  amounts  during  the  fall  and  early  winter  during  the 
strain  of  the  crop-moving  period. 

60.    VARIOUS  MEANS  OF  INTERSECTIONAL  BORROWING^ 

The  rediscounting  by  country  banks  in  New  York  is  not  of  large 
volume  and  at  the  present  time  comes  principally  from  the  southern 
correspondents.  There  is  a  great  difference  of  opinion  in  reference 
to  this  matter,  and  in  some  quarters  rediscounting  is  looked  upon  as 
a  sign  of  weakness,  but  as  far  as  I  am  concerned  I  do  not  feel  that 
way.  Of  course  any  bank  in  New  York  which  attempts  to  redis- 
count its  paper  and  publish  the  same  in  its  statement  is  more  or 
less  criticized.  One  large  institution  in  this  city  showed  bills  dis- 
counted, or  rediscounted,  for  some  $2,000,000  in  their  September  call 
to  the  Comptroller,  which  created  considerable  comment.  But  for 
out-of-town  banks,  whose  customers  need  considerable  sums  of  money 
at  certain  seasons,  especially  in  the  crop-moving  period,  and  whose 
capital  is  not  large  enough,  or  would  be  too  large  during  the  rest  of  the 
year,  I  see  no  reason  why  such  institutions  should  hesitate  to  redis- 
count with  their  reserve  city  correspondents.  Where  there  are  rival 
institutions  in  the  smaller  places  throughout  the  country  they  do  not 
hesitate  to  point  out  to  the  customers  of  the  other  institutions  the  fact 
that  they  rediscount,  as  if  it  was  something  out  of  the  way.  From 
this  fact  has  grown  up  a  practice  with  a  large  number  of  banks  to  secure 
money  in  other  ways  which  will  not  show  on  their  statement  if  called 
for  by  the  Comptroller.  For  instance,  if  they  have  a  large  amount 
of  bonds  which  are  well  known  to  their  correspondents,  they  will 
pass  a  resolution  of  their  board  authorizing  the  officers  to  sell  these 
bonds  and  their  correspondent  would  buy  them  with  an  agreement  on 
behalf  of  the  bank  to  repurchase  the  bonds  at  the  same  price  plus  a 
fixed  rate  of  interest.  Another  method  of  rediscounting  is  for  the 
directors  of  the  bank  to  give  their  own  note  jointly  and  severally  to 
their  reserve  city  correspondent  for  a  considerable   sum   of   money 

'  Adapted  from  a  letter  of  a  prominent  New  York  banker,  quoted  in  an  un- 
published thesis  by  Joseph  J.  Klein,  op.  cil. 


124  rRINClIM>i:S  OF  MONEY  AND  BANKING 

without  {guarantee  or  endorsement  of  their  bank  in  any  way.  The 
money  thus  borrowed  by  the  directors  is  placed  at  their  credit  on  the 
books  of  their  own  institution,  but  they  do  not  draw  against  it,  and  it 
gives  them  just  as  much  more  money  to  use  and  increases  their 
deposits  at  a  time  when  naturally  the  deposits  are  withdrawn  by  their 
regular  customers.  Another  method  employed  for  this  borrowing 
is  for  the  bank  to  sell  some  of  its  notes  without  recourse  to  its  corre- 
spondent, with  instructions  to  charge  these  notes  to  their  account 
ten  days  before  maturity  and  forward  the  same  to  them  for  collection. 

These  are  all  irregular  methods  of  borrowing  and  do  not  show  in 
the  call  to  the  Comptroller;  consequently  that  is  the  reason  why  when 
you  come  to  examine  the  statements  of  national  banks  you  do  not 
find  under  the  head  of  "Rediscounts"  any  considerable  amount. 

The  Comptroller  is  endeavoring  to  take  steps  to  stop  these 
methods  and  make  the  banks  show  all  their  borrowings  as  redis- 
counts. There  is  one  perfectly  legitimate  method,  however,  which 
the  Comptroller  cannot  stop  and  which  I  am  pleased  to  say  is  growing 
out  of  the  practice  of  large  purchases  of  commercial  paper  which  the 
banks  throughout  the  country  are  making  in  the  open  market.  You 
know  this  is  my  "fad, "  and  hence  I  feel  very  well  pleased  at  the  way 
this  part  of  the  business  of  the  country  is  being  handled.  Where 
banks  over  the  country  buy  commercial  paper  upon  the  open  market 
from  reputable  note-brokers,  and  buy  paper  which  is  known  to  their 
correspondents  in  reserve  cities  as  being  first-class  in  every  way,  there 
is  no  reason,  when  they  need  funds  to  take  care  of  their  customers 
or  meet  receding  deposit  lines,  why  they  should  not  take  this  com- 
mercial paper  which  is  bought  on  the  open  market  and  sell  it  to  their 
correspondents  without  any  endorsement  and  without  recourse.  This 
makes  a  very  flexible  secondary  reserve  for  every  institution  which 
carries  commercial  paper  of  this  character,  and  the  Comptroller  can 
find  no  fault  with  this;  and  the  banks  that  are  doing  it  not  only  have 
the  advantage  over  other  institutions  of  being  able  to  take  care  of 
their  customers  as  the  paper  matures,  but  are  also  in  a  position  to 
quickly  and  promptly  turn  into  cash  through  their  reserve  agents  a 
large  amount  of  their  bills  discounted. 


RELATIONS  BETWEEN  BANKS  125 

(2)    PERIODIC  TENSION  AND  EASE  IN  THE  SYSTEM 

(a)  Seasonal 

61.    SEASONAL  VARIATIONS  IN  NEW  YORK  MONEY  MARKET* 
By  EDWnsr  WALTER  KEMMERER 

With  regard  to  seasonal  movements  in  the  relative  demand  for 
moneyed  capital  the  New  York  money  market  exhibits  five  important 
seasonal  swings.  Throughout  January  and  during  the  early  part  of 
February  there  is  normally  a  pronounced  "easing  up"  of  the  money 
market.  By  the  fore  part  of  January  the  crop-moving  demand  for 
money  in  the  West  and  South  is  over  and  the  return  flow  of  cash  is  at 
its  height.  There  is  a  natural  reaction — in  part  psychological — 
which  results  from  the  relaxing  of  the  heav}'  strain  on  the  money 
market  incident  to  January  i  settlements  and  to  the  passing  of  the 
holiday  season.  At  this  time  freight  traffic,  both  on  the  railroads 
and  on  the  inland  waterways,  is  relatively  small. 

The  second  seasonal  movement  is  the  spring  revival,  beginning 
about  the  middle  of  February  and  extending  to  the  latter  part  of 
March  or  the  fore  part  of  April  (in  some  years  a  week  or  so  later). 
This  recovery  is  stimulated  by  the  cheap  money  prevailing  during  the 
preceding  period,  railroad  traffic  is  released  from  the  incubus  of  cold 
weather  and  snow,  the  inland  waterways  are  opened  up;  on  April  i 
comes  the  demand  for  large  interest  and  dividend  settlements,  and  in 
this  period  comes  the  spring  demand  of  agriculturists  for  the  planting 
of  crops. 

The  third  important  seasonal  movement  is  the  weakening  money 
market  of  the  late  spring,  followed  by  the  summer  depression.  This 
period  extends  from  the  middle  or  latter  part  of  April  to  the  fore 
part  of  August.  It  is  interrupted  by  a  temporary  reaction  about 
July  I,  the  time  of  semiannual  settlements.  This  third  seasonal 
period  shows  the  natural  reaction  from  the  high  rates  of  the  preceding 
period,  the  anticipation  and  later  the  realization  of  the  hot  months 
of  summer  comprising  the  vacation  period,  the  lessened  demand 
for  funds  in  the  Middle  West  after  the  planting  of  the  crops,  and  the 
resulting  return  of  cash  to  New  York  for  deposit,  investment,  and 
speculation.    The  decUning  and  cheap  money  market  at  this  time, 

'  Adapted  from  Seasonal  Variations  in  the  Relative  Demand  for  Money  and 
Capital  in  the  United  States,  pp.  24-25,  223-24.  (National  Monetar>'  Commission, 
1910.) 


126 


l'RIN(IIM.i;S  Ol-  MONEY  AND  BANKING 


wliicli  linds  expression  in  such  phenomena  as  large  bank  reserves,  low- 
interest  rates,  gold  cxportations,  and  high  security  prices,  naturally 
brings  its  own  corrective  to  some  extent. 


Deposits  and  Bank-Note  Circulatton  of  the  New  York  City  Cleareng- 
HousE  Banks,  1890- 1908 


Loans  and 
Deposits 
(000,000) 


81S 
80s 


78s 


76s 


70s 

69s 

Weeb 
Months 


rage  Loans 

rage  Deposits 

rage  Bank  Note  Circulation 

.' 

/ 

» 

/ 

'*••••'** 

****     '• 

*••' 

V 

A^ 

f^ 

\ 

\J' 

^/^ 

j^\ 

n 

J 

^ 

t 

r 

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V  / 

f 

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f 

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7 

V 

J 

f 

7 

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^^ 

■"^ 

/^ 

5            10            15            20            25           30             35           tO           4i            50       1 

Jan^    1     Feb.   |    Mai.  |    Api.    |  May   |  June    |   July      |    Aug.     |   Sept.  |     Oct     |   Nov.  |  Dec.  |   Jan. 

Hank-Note 
Circulation 
(000,000) 

$.370 


360 


2S0 


260 


240 
Weeks 

Months 


The  crop-moving  period  is  the  fourth  period.  This  period,  the 
discounted  beginnings  of  which  are  evidenced  by  the  upward  turn  of 
interest  rates  on  sixty-  to  ninety-day  commercial  paper  and  four 
months'  time  paper  as  early  as  the  first  week  in  July,  may  perhaps 


RELATIONS  BETWEEN  BANKS 


127 


best  be  dated  from  the  first  week  in  August,  when  call  rates  begin  their 
upward  movement  and  when  bank  reserves  begin  their  decline. 
Under  the  pressure  of  the  crop-moving  demand  for  cash  in  the  West 
and  South  bank  reserves  are  depleted  and  the  money  market  tightens 
rapidly  until  about  October  i. 


Reserves  and  Ratios  of  Reserves  to  Deposits  of  the  New  York  City 
Clearing-House  Banks,  1890-190S 

Ratio  of 


Reserves  to 

Deposits 

(Per  cent) 


2g.6o 


28.80 


28  .40 


28.00 


27  .60 


26.80 
Weeits 

Months 


A 

A 

verage  Rescr^'cs 

vcragc  Ratios  of  Reserves  to  Deposits 

/ 

\ 

K 

/ 

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f  ^ 

\f 

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V. 

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f 

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u 

A 

A 

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> 

'.•'\. 

-\ 

5            10            15           20           25           30            35           40           45           50       1 

Jan.    1     Feb.  |     Mar.  |    Apr.  |    May    |    June   |    July     |   Aug     |     Sept.   |      Oct     |     Nov.   |    Dec.  |j«n. 

Reserves 
(ooo.ooo) 

$278 


268 

H  253 
248 
238 
228 
318 
208 


Weeks 
Months 


The  fifth  and  last  seasonal  period  in  the  New  York  money  market 
extends  from  about  the  first  week  in  October  to  the  opening  of  the  new 
year.  It  is  a  period  of  considerable  uncertainty  and  of  many  minor 
fluctuations,  but  the  demand  for  moneyed  capital  continues  large 
until  after  the  holiday  season  and  January  settlements.  The  west- 
ward movement  of  cash  falls  off  rapidly  in  November  and  December, 
and  by  the  latter  month  the  return  flow  has  set  in.  The  southward 
movement  declines  in  Novemljcr,  but  shows  some  signs  of  increasing 
temporarily  in  December.  Gold  imjwrts  reach  a  low  point  in  Decem- 
ber. Throughout  Octol^er,  November,  and  December  the  Federal 
Treasury  Department  normally  continues  to  increase  its  deix)sits  in 
national  banks,  of  which  New  York  City  gets  its  share. 


1 28  PRINCIPLES  OF  MONEY  AND  BANKING 

62.    SEASONAL  VARIATIONS  IN  OTHER  CENTERS' 
By  EDWIN  WALTER  KEMMERER 

Chicago,  as  might  be  expected,  shows  a  striking  similarity  to 
New  York.  There  are  the  same  five  principal  seasonal  movements 
taking  place  at  approximately  the  same  times  of  the  year  and  in- 
fluenced largely  by  the  same  causes. 

The  St.  Louis  seasonal  swing  differs  from  those  of  New  York  and 
Chicago  principally  in  the  fact  that  it  exhibits  a  sharp  decline  in 
November,  followed  by  a  reaction  extending  until  the  latter  part  of 
December.  There  are  considerable  differences,  moreover,  in  the  times 
at  which  the  different  seasonal  movements  begin  and  end.  Being  in 
the  midst  of  the  great  agricultural  section  which  creates  the  "crop- 
moving  demand  for  money,"  St.  Louis  naturally  relaxes  from  the 
crop-moving  strain  earlier  than  do  the  cities  farther  east. 

The  movements  in  New  Orleans  differ  from  those  of  New  York  and 
Chicago  even  more  than  do  those  of  St.  Louis.  The  January  decline 
is  of  such  short  duration  as  to  be  almost  negligible.  Bank  reserves 
decline  rapidly  from  early  in  January  until  the  beginning  of  May,  but 
this  is  apparently  not  due  so  much  to  a  demand  for  funds  at  home 
as  to  the  transfer  of  money  for  deposit  and  investment  to  other  markets 
during  the  slack  season  in  the  region  contributory  to  New  Orleans. 
The  New  Orleans  market,  like  those  of  other  cities  studied,  is  weak 
during  the  hot  summer  months  of  June  and  July,  but  begins  to  grow 
stronger  by  August  and  reaches  its  strongest  point  of  the  year  during 
the  crop-moving  months  of  September,  October,  and  early  November. 
The  last  period  of  the  year  in  the  New  Orleans  money  market  is  one 
of  readjustment  and  liquidation,  following  the  heavy  demands  of  the 
crop-moving  period.  It  extends  from  the  fore  part  of  November 
to  the  end  of  the  year,  and  is  a  period  of  comparatively  strong  though 
gradually  weakening  market,  and  seems  to  resemble  more  closely  the 
markets  of  New  York  and  Chicago  for  this  period  than  that  of  St. 
Louis. 

The  San  Francisco  market  is  probably  more  largely  influenced 
by  purely  local  conditions  than  any  of  the  other  money  markets 
studied.  It  exhibits  seven  fairly  pronounced  seasonal  movements, 
as  follows :  (i)  The  usual  January  decline.  (2)  A  progressive  ''harden- 
ing" from  about  the  first  of  February  until  nearly  the  middle  of 

'  Adapted  from  Seasonal  Variations  in  the  Relative  Demand  for  Money  and 
Capital  in  the  United  States,  pp.  224-25.     (National  Monetary  Commission,  1910.) 


RELATIONS  BETWEEN  BANKS  129 

March.  In  addition  to  the  forces  bringing  about  this  spring  revival  in 
other  cities,  such  as  the  natural  reaction  and  readjustment  after  the 
January  decline  and  the  spring  demands  of  agriculturists,  the  local 
tax  situation  in  California  is  an  important  factor.  (3)  The  third 
period  is  one  of  an  easier  money  market.  It  begins  about  the  middle 
of  March,  and  continues  until  the  last  of  April,  being  temporarily 
interrupted  at  the  time  of  quarterly  disbursements,  about  the  first 
week  in  April.  This  movement,  like  the  former,  is  largely  the 
result  of  the  local  tax  system.  (4)  From  the  last  of  April  until  the 
latter  part  of  June  the  San  Francisco  market  is  comparatively  strong, 
under  the  influence  of  the  demands  for  the  annual  fruit-packing 
business  and  of  fishing  companies  preparing  for  long  fishing  trips. 
(5)  The  fifth  period  extends  from  the  last  of  June  to  about  the  last  of 
September.  Like  the  summer  months  in  the  other  cities  studied,  it  is  a 
period  of  comparatively  small  demand  for  loanable  capital.  (6)  The 
sixth  seasonal  period  is  the  crop-moving  period,  extending  from  about 
the  last  of  September  until  the  latter  part  of  November.  It  is  a 
period  of  rapidly  increasing  or  large  relative  demand  for  mone}-ed 
capital.  The  demand  comes  largely  from  the  need  of  funds  for 
moving  dried  fruits  and  canned  fruits  and  for  financing  the  hay  and 
grain  crops.  An  important  factor  in  the  market  at  this  time  is  the 
local  tax  situation.  (7)  The  seventh  and  last  seasonal  movement 
in  the  San  Francisco  market  covers  the  last  few  weeks  in  the  year 
and  begins  anywhere  from  the  latter  part  of  November  to  the  middle 
of  December,  according  to  the  lateness  of  the  season.  It  is  a  period 
of  reaction  and  decline  after  the  strong  market  of  the  preceding  period. 


63.    THE  THEORY  OF  DOMESTIC  EXCHANGE' 
By  WILLIAM  A.  SCOTT 

Commercial  relations  between  communities  are  revealed  most 
clearly  by  what  is  called  the  balance  of  trade,  by  which  is  meant  tlic 
difference  between  the  totals  of  the  sales  to  and  the  purchases  from 
outsiders.  When  Llie  total  of  sales  exceeds  the  total  of  j^urchascs, 
the  balance  of  trade  is  said  to  be  favorable,  and  in  tlie  opposite  case 
unfavorable.  Credit  relations  are  revealed  by  balancing  mutual 
loans  and  investments,  and  gift  relations  by  balancing  gifts  and  other 
transfers  of  property  for  which  no  return  is  expected.     A  combina- 

'  Adapted  from  Money  and  Banking,  pp.  121-25.     (Henry  Holt  &  Co.,  1910.) 


I30  PRINCIPLES  OF  MONEY  AND  BANKING 

tion  of  these  balances  results  in  making  a  given  community  either 
a  debtor  of  or  a  creditor  to  other  communities.  It  is  for  the  adjust- 
ment of  these  debit  and  credit  balances  that  shipments  of  money  from 
place  to  place  are  made. 

At  this  point  the  queries  naturally  arise  whether  the  money  funds 
of  a  community  may  not  be  completely  exhausted  by  the  payment 
of  adverse  balances  and  how  much  is  required  for  this  purpose.  An 
examination  of  the  various  elements  which  determine  the  balance  of 
indebtedness  will  show  that  there  is  no  danger  either  of  the  exhaustion 
of  money  funds  or  of  their  reduction  below  minimum  requirements. 
The  balance  of  trade,  the  balance  of  loans,  and  the  balance  of  invest- 
ments are  all  three  adjustable.  Long  before  a  community  could  be 
deprived  of  the  minimum  amount  of  cash  needed  for  bank  reserves 
and  hand-to-hand  money,  prices,  interest  rates,  and  opportunities 
for  profitable  investments  would  have  so  changed  as  to  annihilate 
the  unfavorable  balance.  The  first  effect  of  shipments  of  currency 
to  other  centers  is  the  decline  in  the  reserves  of  banks,  which,  if  con- 
tinued, will  result  in  a  rise  of  interest  rates  and  a  contraction  of  bank 
loans.  The  withdrawal  from  business  men  of  the  loan  accommoda- 
tions to  which  they  have  been  accustomed  will  force  them  to  diminish 
their  purchases  and  will  stimulate  their  efforts  to  sell.  If  this  is  not 
sufl&cient  to  redress  the  unfavorable  balance,  loans  from  outsiders  may 
be  increased  or  the  fall  in  local  values  due  to  the  increased  anxiety 
to  sell  property  may  induce  outsiders  to  increase  their  investments 
in  the  town.  The  proper  adjustment  will  ultimately  be  brought  about 
by  a  change  of  prices.  If  those  of  the  place  at  which  the  balance  of 
indebtedness  is  adverse  are  sufficiently  reduced,  increased  sales  to  and 
increased  investments  by  outsiders  will  remedy  the  diflSculty,  and  such 
a  reduction  will  result  from  the  pressure  to  meet  obligations  caused 
by  the  currency  drain. 

The  influence  of  currency  movements  on  relative  prices  must  not 
be  confused  with  the  fundamental  causes  of  price  changes.  We  are 
here  concerned  with  the  adjustment  of  the  relations  between  the 
demand  and  the  supply  of  the  same  goods  in  different  places. 
Movements  of  currency  from  place  to  place  are  but  one  phase  of 
the  operation  of  the  general  principle  that  people  sell  in  the  dearest 
and  buy  in  the  cheapest  market,  the  result  of  which  is  a  tendency 
toward  the  equalization  of  the  prices  of  the  same  commodity  in 
different  markets. 


RELATIONS  BETWEEN  BANKS  131 

Shipments  of  currency  from  place  to  place  involve  expenditures  for 
express  charges  and  insurance  and  the  loss  of  interest  during  the  period 
of  transit.  This  latter  item  is  explained  by  the  fact  that  banks  are 
unable  to  count  as  part  of  their  reserve,  and  hence  to  use  as  a  basis 
for  loans,  money  in  the  possession  of  an  express  company.  On 
account  of  these  expenses,  a  bank  which  is  asked  to  sell  exchange  on 
a  place  in  which  it  has  no  balance,  or  to  which  it  cannot  without 
expense  transfer  a  portion  of  its  balance  in  some  other  place,  must 
charge  a  premium  for  such  drafts,  unless  it  can  buy  in  the  home  town 
exchange  on  that  place  at  par.  Under  the  opposite  circumstances 
a  bank  may  be  willing  to  sell  drafts  at  a  discount,  since  this  may  be 
the  most  profitable  way  of  using  a  surplus  balance  with  its  correspond- 
ent. This  would  be  the  case,  for  example,  if  its  reserve  were  low  and 
its  surplus  with  the  correspondent  large.  Rather  than  pay  the  expense 
of  a  currency  shipment  it  could  afford  to  sell  drafts  at  any  discount 
less  than  that  expense.  The  maximum  premium  it  could  charge  in 
the  opposite  case  would  be  the  expense  of  sending  money  to  cover  its 
draft,  since  rather  than  pay  a  higher  premium  customers  would  ship 
cash  for  themselves.  The  rate  of  exchange  on  a  place,  as  the  price 
of  drafts  is  technically  called,  may,  therefore,  fluctuate  between  a 
point  above  par,  determined  by  adding  the  expenses  of  shipment  to 
the  face  value  of  the  draft,  and  a  point  below  par,  determined  by  sub- 
tracting that  amount.  The  actual  premium  or  discount  is  fixed  by 
competition  between  the  buying  and  selHng  banks  of  a  place,  those  in 
a  position  to  sell  exchange  competing  with  each  otlier  for  the  custom 
of  those  buying,  in  case  exchange  is  at  a  discount,  and,  in  case  it  is  at 
a  premium,  the  buying  banks  bidding  against  each  other  for  the 
drafts  the  selling  banks  are  willing  to  dispose  of. 

The  cost  per  $1,000  of  currency  shipments  between  New  York 
and  Chicago  is  usually  about  50  cents;  between  New  York  and 
St.  Louis,  60  cents;  between  New  York  and  New  Orleans,  75  cents, 
and  between  New  York  and  San  Francisco,  $1 .  50.  In  this  country 
the  expense  of  currency  shipments  is  sometimes  saved  by  the  opera- 
tion of  our  independent  treasury  system.  The  central  government 
has  subtreasuries  in  which  its  funds  are  kept  in  Philadelphia,  New 
York,  Boston,  Baltimore,  Cincinnati,  St.  Louis,  New  Orleans,  Chicago, 
and  San  Francisco,  and  when  it  has  occasion  to  make  transfers  for  its 
own  purposes  it  may  sell  drafts  on  certain  subtreasuries  at  par,  tlius 
saving  banks  the  expense  of  shipping  currency  on  their  own  account. 


132  PRINCIPLES  OF  MONEY  AND  BANKING 

64.    EXCHANGE  RATES  AND  MOVEMENTS  OF  CURRENCY 
TO  AND  FROM  CHICAGO' 

By  EDWm  WALTER  KEMMERER 

Throughout  January  money  in  Chicago  relative  to  that  in  New 
York  City  is  cheap.  Exchange  rates  on  New  York  are  high  and  there 
is  a  considerable  movement  of  cash  from  Chicago  to  the  Eastern 
states — ^particularly  to  New  York  City.  The  average  rate  of  exchange 
for  each  of  the  first  four  weeks  (1899-1908)  varied  from  2.5  cents 
premium  in  the  first  week  to  10  cents  premium  in  the  fourth  week. 
Of  the  forty  weekly  rates  appearing  during  the  first  four  weeks  of  the 
ten  years  twenty-four  were  not  less  than  10  cents  premium.  Com- 
paratively high  exchange  rates  were  accordingly  fairly  regular  in  their 
occurrence  during  this  period. 

Just  prior  to  January  i  there  is  normally  a  large  demand  in 
Chicago  for  New  York  exchange  with  which  to  meet  dividend  and 
interest  payments  due  in  New  York,  and  the  high  rates  thus  created 
continue  somewhat  into  the  new  year.  The  crop-moving  and  hoHday 
demand,  however,  being  over,  money  becomes  relatively  cheap  in 
Chicago  and  flows  to  New  York  City,  where  it  can  at  least  earn  the 
2  per  cent  paid  by  banks  on  bankers'  balances,  and  where  it  is  absorbed 
somewhat  in  speculative  activity  and  in  the  higher  security  prices, 
which  normally  rule  the  latter  part  of  January  and  the  fore  part 
of  February. 

From  the  last  of  February  to  the  fore  part  of  March  the  demand 
for  money  in  Chicago  relative  to  that  in  New  York  rapidly  rises. 
Exchange  rates  on  New  York  fall  to  a  low  point. 

Reported  currency  shipments  between  Chicago  and  Eastern 
states  substantiate  the  evidence  of  domestic  exchange  rates.  The 
total  shipments  of  cash  from  Chicago  to  the  Eastern  states  in  January 
amounted  in  four  years  to  $8,088,000,  while  February  shipments 
amounted  to  only  $1,934,000.  The  total  receipts  by  Chicago  from 
the  East  in  January  for  the  four  years  was  $1,751,000.  There  is  no 
evidence  of  a  movement  of  cash  from  the  East  to  Chicago  in  February, 
although  there  is  something  of  a  westward  movement  in  IMarch. 

During  the  period  from  late  January  to  early  March  the  relative 
demand  for  money  in  Chicago  is  increased  by  the  anticipated  opem'ng 
of  navigation  on  the  Great  Lakes,  for  the  opening  of  navigation  gives 
rise  to  a  large  amount  of  New  York  exchange  received  in  pajonent  of 

'  Adapted  from  Seasonal  Variations  in  the  Relative  Demand  for  Money  and 
Capital  in  the  United  States,  pp.  96-100.     (National  Monetary  Commission,  1910.) 


RELATIONS  BETWEEN  BANKS  133 

grain  bills.  There  is  also  a  demand  on  the  part  of  western  bankers 
for  currency  to  meet  the  spring  needs  of  the  western  farmers.  The 
first  of  March  in  many  sections  of  the  Middle  West  is  the  commonest 
time  for  making  settlements  of  interest  and  principal  on  farm  mort- 
gages.    It  is  also  a  common  date  for  paying  farm  rents. 

This  spring  advance  in  the  value  of  money  in  Chicago  as  compared 
with  New  York  reaches  its  maximum  early  in  March.  The  demand 
then  falls  off  rapidly  and  with  only  temporary  interruptions  (the 
most  noteworthy  being  about  May  i)  until  it  reaches  the  low  level  of 
the  early  summer,  the  latter  part  of  May.  It  continues  at  a  low 
level  until  early  in  July,  when  the  crop-moving  advance  begins. 

The  average  domestic  exchange  rate  rose  from  29 . 5  cents  discount 
in  the  ninth  week  to  16  cents  premium  in  the  twenty-first  week.  In 
nine  of  the  ten  years  the  rate  for  the  twenty-first  week  was  higher 
than  that  for  the  ninth.  The  average  rate  then  fell  to  4  cents  premium 
in  the  twenty-fourth  week.  These  two  latter  movements,  however, 
were  minor  ones  and  not  regular  in  their  occurrence,  the  former  taking 
place  in  six  and  the  latter  in  five  of  the  ten  years. 

Chicago  reported  relatively  small  receipts  of  cash  from  the  East 
during  these  months.  The  shipments  east,  however,  were  high,  the 
totals  for  four  years  being  as  follows:  March,  $6,287,000;  April, 
$10,936,000;    May,  $12,212,000;    June,  $12,628,000. 

Money,  having  served  its  purpose  in  meeting  the  spring  needs  of 
agriculturists,  flows  into  the  reserves  of  the  Chicago  banks,  and 
Chicago  bankers,  not  having  a  great  demand  for  it  at  this  time,  move 
a  portion  of  it  to  New  York  for  the  purpose  of  obtaining  the  2  per  cent 
which  New  York  banks  pay  upon  bankers'  balances. 

About  July  I  the  relative  demand  for  money  in  Chicago  begins 
to  increase,  advancing  rapidly,  with  minor  interruptions,  imtil  early  in 
September  and  then  maintaining  a  high  level  until  the  fore  part  of 
November.  During  this  period  exchange  rates  rule  low  and  money 
moves  in  large  quantities  from  the  Eastern  states  to  Chicago.  The 
average  exchange  rate  fell  abruptly  from  1 1 . 5  cents  premium  in  the 
twenty-sbcth  week  to  16.5  cents  discount  in  the  twenty-seventh 
week,  a  decUne  taking  place  in  every  one  of  the  ten  years.  After  a 
minor  reaction  to  the  twenty-ninth  week,  which  took  place  in  seven 
years,  there  was  a  continuous  decline  until  the  thirty-lillh  week,  when 
the  lowest  point  of  the  year  was  reached.  The  average  rate  fell 
from  II .  5  cents  premium  in  the  twenty-sixth  week  to  37  .  5  cents  dis- 
count in  the  thirty-fifth,  a  very  substantial  decline  taking  place  in 


134  I'RINCII'I.KS  OF  MONi:y  AND  BANKING 

every  year.  Exchange  then  continued  at  a  low  level  until  about  the 
forty-fourth  week  (fore  part  of  November),  the  average  rate  for  this 
week  being  29  cents  discount. 

The  primary  cause  for  this  is  of  course  the  anticipated  and  actual 
crop-moving  demand.  For  the  twenty-seventh  week  (about  July  1) 
the  striking  fall  in  exchange  may  be  due  in  part  to  the  efforts  of  west- 
ern banks  to  maintain  their  reserves  (or  strengthen  them)  in  prepara- 
tion for  their  half-yearly  statements,  which  are  generally  published. 

The  receipts  of  cash  by  Chicago  banks  from  eastern  banks  from 
June  to  October  were  as  follows:  June,  $2,500,000;  July,  $2,704,000; 
August,  $17,910,000;  September,  $11,789,000;  October,  $21,843,000. 
Shipments  by  Chicago  to  the  East  were  very  low  in  all  these  months. 

During  the  last  six  to  eight  months  of  the  year,  the  demand  for 
money  being  stronger  in  New  York  than  in  Chicago,  the  average 
exchange  rate  rose  from  29  cents  discount  to  13  cents  premium  in  the 
forty-seventh  week;  it  then  declined  to  11. 5  cents  discount  in  the 
forty-ninth  week.  The  rate  for  the  forty-seventh  week  was  higher 
than  that  for  the  forty-fourth  in  every  one  of  the  ten  years,  that  for  the 
forty-ninth  week  was  lower  than  that  for  the  forty-seventh  in  eight 
years  and  the  same  as  the  forty-seventh  in  the  other  two  years,  while 
that  for  the  fifty-second  week  was  higher  than  that  for  the  forty- 
ninth  in  six  years  and  the  same  as  that  for  the  forty-ninth  in  two  years. 
The  general  upward  tendency  in  rates  at  this  time,  as  well  as  the 
two  lesser  movements  noted,  appear,  therefore,  to  be  fairly  regular 
in  their  occurrence. 

Reported  receipts  of  cash  by  Chicago  from  the  Eastern  states 
fell  off  in  November  and  December  from  their  maximum  figure 
for  the  year  in  October.  On  the  other  hand,  shipments  to  the  Eastern 
states  reported  by  Chicago  rose  from  $2,134,000  for  October  to 
$3,213,000  for  November,  then  fell  to  $3,021,000  for  December. 

Money  becomes  relatively  cheap  in  Chicago  and  vicinity  during 
these  last  six  weeks  of  the  year,  principally  because  of  the  return  flow 
of  currency  previously  shipped  to  the  country  districts  for  crop- 
moving  purposes.  There  is  also  considerable  demand  at  this  time  for 
New  York  exchange  to  meet  payments  in  certain  lines  of  goods,  such 
as  hardware  and  dry  goods,  that  are  due  New  York  and  New  England 
houses  by  western  establishments,  and  to  make  purchases  for  the 
holiday  trade. 

The  decline  in  exchange  rate  from  the  forty-seventh  to  the  forty- 
ninth  week  may  perhaps  be  attributed  to  the  fact  tliat  by  this  time 


RELATIONS  BETWEEN  BANKS  135 

foreign  exchange  made  by  coUon  and  grain  shipments  to  Europe 
has  been  sold  in  New  York  in  considerable  quantities.  The  advance 
from  the  forty-ninth  to  the  fiftieth  week  and  the  comparatively  high 
exchange  rates  until  the  end  of  the  year  are  largely  due  to  preparations 
for  the  January  disbursements,  which  western  concerns  are  called  upon 
to  make  in  New  York  City. 

65.    INTEREST  ON  DEPOSITS  AND  SEASONAL  DISTURBANCES" 
By  WILLIAM  A.  RICHARDSON 

The  practice  of  paying  interest  on  deposits  is  pernicious  and 
fraught  with  danger  and  embarrassment  to  borrower  and  lender  as 
well  as  to  the  general  business  interests.  If  deposit  accounts  are 
employed  as  temporary  investments,  the  interest  attracts  a  large 
amount  of  money  to  those  cities  where  such  interest  is  paid,  and  where 
speculation  is  most  active,  at  seasons  when  as  much  profit  thereon  can- 
not be  secured  in  legitimate  business,  these  temporary  investments  are 
called  in  and  jeopardize  in  their  sudden  withdrawal  the  whole  business 
of  the  banks,  both  affecting  the  legitimate  depositors  on  the  one  hand 
by  excitement  and  distrust,  and  on  the  other  creating  a  condition  of 
things  in  which  the  borrowers  on  call  are  also  unable  to  respond.  The 
banks  have  borrowed  their  money  of  depositors  on  call.  They  have 
loaned  it  on  call  to  speculators,  who  by  its  use  have  contributed  to 
inflate  prices  of  the  stocks  or  merchandise  which  have  been  the  subject 
of  their  speculations.  The  speculator  wants  it  till  he  can  dispose  of 
them  without  a  loss.  This  he  is  unable  to  do  in  a  stringent  money 
market.  The  banks,  their  depositors,  and  the  borrowers  all  want 
it  at  the  same  time,  and  of  course  a  stringency  is  developed  which 
spreads  distress  throughout  the  country. 

The  system  creates  an  immense  amount  of  debts  payable  on 
demand,  all  of  which  thus  suddenly  and  unexpectedly  mature  at 
the  first  shock  of  financial  or  commercial  embarrassment  in  the 
country  and  at  the  very  time  when  most  needed  by  debtors  and  when 
they  are  least  able  to  respond. 

Without  attributing  the  stringency  in  the  money  market  which  is 
experienced  every  autumn  and  occasionally  at  other  seasons  of  the 
year  solely  to  this  practice  of  paying  interest  upon  deposits  in  the 
large  cities,  it  is  evident  that  when  money  is  less  needed  in  legitimate 
])usiness  the  practice  encourages  overtrading  and  speculation,  always 

'  Adapted  from  Finance  Report,  1873,  pp.  xv-xvi. 


i,:;^  PRINCIPLES  OF  M0NP:Y  AND  BANKING 

detrimental  to  tlic  best  interests  of  the  country,  and  the  bad  effects 
of  which  upon  those  interests  become  more  apparent  and  the  disaster 
more  widespread  when  the  necessary  contraction  begins  to  be  felt. 

66.    SEASONAL  FLUCTUATIONS  AND  COMMERCLVL  FAILURES' 
By  EDWIN  WALTER  KEMMERER 

The  figures  for  commercial  failures  for  the  years  1890-1908  pub- 
lished by  Dun's  and  Bradstreet's  show  a  striking  seasonal  movement. 
First  to  attract  attention  is  the  very  large  number  of  failures  during 
the  fore  part  of  January.  The  first  three  weeks  of  the  year  are  clearly 
the  highest  three.  After  the  fore  part  of  January  there  is  a  rapid 
decline  in  the  number  of  commercial  failures  until  the  fore  part  of 
April.  With  the  exception  of  a  minor  upward  movement  during  July, 
followed  by  a  decline  throughout  August,  the  curves  of  commercial 
failures  tend  to  be  low  from  early  April  until  the  fore  part  of  Septem- 
ber, when  they  begin  a  strong  upward  movement  which  does  not  cul- 
minate until  after  the  opening  of  the  new  year. 

What  is  the  explanation  of  this  marked  seasonal  swing  in  the 
number  (and  also  the  liabilities)  of  commercial  failures  ?  Obviously 
one  of  the  chief  causes  for  the  large  number  of  failures  in  December 
and  January  consists  in  the  custom  among  business  concerns  of  taking 
account  of  stock  in  December  and  of  closing  accounts  for  the  year's 
business.  Many  small  concerns  really  do  not  know  where  they  stand 
until  about  this  time  of  the  year.  Many  financial  obligations,  more- 
over, become  due  January  i,  and  it  is  customary  in  many  places  for 
banks  to  require  statements  of  customers  at  about  this  time.  In 
early  January  business  concerns  are  commonly  facing  a  period  of 
inactive  business.  Similar  conditions  in  general  exist,  although  on 
a  much  smaller  scale,  during  the  few  weeks  before  and  after  July  i, 
and  probably  account  for  the  movements  in  commercial  failures 
noted  as  occurring  at  that  time.  Concerns  which  survive  the 
December- January  strain  are  hkely  to  be  able  to  continue  during 
the  spring  and  the  slack  summer  months.  As  the  fall  approaches  and 
the  money  market  hardens  in  response  to  crop-moving  demands,  as 
interest  rates  rise,  bank  reserves  decline,  and  loans  are  curtailed,  as 
securities  tend  to  decline  and  increased  margins  are  called  for,  the 

'  Adapted  from  Scason<il  Variations  in  the  Relative  Demand  for  Money  and 
Capital  in  the  United  States,  pp.  231-32,  221-22.  (National  Monetary  Commis- 
sion, 1910.) 


RELATIONS  BETWEEN  BANKS  137 

strain  on  the  weaker  business  concerns  is  liable  to  become  more  tense. 
While,  of  course,  it  would  be  rash  to  say  that  the  tightened  money 
market  in  the  fall  is  the  cause  of  the  large  number  of  failures  at  this 
period,  it  seems  reasonable  to  expect  that  the  strained  money  market 
at  this  time  would  tend  to  push  over  many  concerns  which  were 
already  near  the  verge  of  failure.  I  know  of  no  other  explanation  for 
the  large  number  of  failures  during  October  and  November.  The 
period  of  the  spring  trade  revival  is  so  brief  and  such  a  short  time  after 
the  "cleaning-up"  period  of  December  and  January  that  it  normally 
occasions  few  failures.  In  March,  however,  there  is  a  slight  decrease 
in  the  number  of  commercial  failures. 

67.    SEASONAL  VARIATIONS  IN  SUPPLY  OF  CURRENCY' 
By  EDWIN  WALTER  KEMMERER 

By  "money  in  circulation"  is  meant  all  money  outside  of  the 
Federal  Treasury  vaults.  The  forces  influencing  the  amount  of  gold 
and  gold  certificates  in  circulation  are  (i)  the  bullion  deposits  at  the 
United  States  mints  and  assay  ofl5ces;  (2)  the  net  imports  and 
exports  of  gold  in  settlement  of  foreign  balances;  and  (3)  subtreasury 
payments  and  receipts.  The  rapidly  increasing  gold  production  in 
1 890- 1 90S  would  of  course  show  a  steady  increase  in  gold  circulation 
from  January  to  December. 

The  substantial  increase  in  gold  circulation  from  July  to  December 
is  due  to  the  large  deposits  of  gold  at  the  mints  and  assay  offices  in 
these  months,  by  net  importations  of  gold  from  abroad  in  consequence 
of  heavy  exports  at  this  season,  and  to  a  decrease  in  the  treasury 
balances.  The  deposit  of  large  amounts  of  bullion  at  the  mints  at 
this  season  is  due  merely  to  the  conditions  surrounding  the  production 
of  gold.  It  is  not  brought  about  to  any  extent  by  the  great  demand 
for  moneyed  capital  at  this  time  of  the  year.  It  has  been  the  policy 
of  the  Treasury  Department  during  the  latter  months  of  the  year  to 
aid  the  banks  in  meeting  the  crop-moving  demand  by  decreasing 
subtreasury  holdings  and  increasing  government  deposits  in  national 
banks. 

The  national  bank  note  circulation  curves  do  not  exhibit  any 
considerable  seasonal  elasticity.    There  is  a  general  increase  from 

'  Adapted  from  Seasonal  Variations  in  the  Relative  Demand  for  Money  and 
Capital  in  the  United  Slates,  pp.  146-53,  173.  (National  Monelar>'  Commission, 
1910.) 


i3« 


I'RINCIPLES  OF  MONEY  AXD  BANKING 


Seasonal  Variations  of  Vakious  Kinds  of  Money  and  of  Deposits  in  tue 

United  States,  1890-1908' 

Gold  Coin 

ami  (lold 

Certilkati's 

(000,000) 

$860.0 


852  5 
84s.  o 

837.  S 

830.0 
822. S 
815.0 

807.5 
800.0 


Total 

Money 

(000,000) 

$2,130 


2,080 


2,060 


^^^^  Average  Amounts  o(  National  Bank  Notes 

_^ 

y 

•/ 

y 

'/ 

/ 

\ 

^^ 

^ 

^ 

/ 

\\ 

^ 

^ 

/ 

w 

y^ 

^ 

> 

/ 

\ 

/ 

N 

^ 

/ 

/ 

\ 

/^ 

\ 

<y 

j\ 

1 

■■■■■  Average  Amounts  of  Total  Money 

i 

/ 

/ 

\ 

\ 

i 

i^ 

\ 

\ 

\ 

/ 

\ 

\ 

\ 

/ 

\ 

1 

\ 

\ 

\ 

/ 

1 

1 

' 

> 

\ 

V 

/ 

^ 

^ 

/ 

/ 

National 
Bank  Notes 

$340 
335 


30s 


Amounts  c 

dealings 

(000,000) 

§4,075 


1,62s 


Months    ^  cS 


1400 
Months 


'  Chart  made  from  Kcmmcrer's  chart,  p.  146,  and  table,  p.  i6t. 


RELATIONS  BETWEEN  BANKS  139 

year  to  year,  as  would  be  expected  because  of  generally  expanding 
business,  but  there  is  virtually  no  rise  and  fall  according  to  the  seasonal 
variations  in  the  demands  of  trade.  It  is  noteworthy,  however,  that 
the  increase  in  circulation  each  year  takes  place  largely  in  the  fall  and 
early  winter.  Apparently  banks  intending  to  increase  their  circu- 
lation postpone  doing  so  until  the  crop-moving  season  approaches. 
There  is  no  evidence  of  contraction,  however,  when  the  crop-moving 
demands  are  over,  the  national  bank  note  elasticity  being  (to  use 
a  rather  inelegant  expression)  of  the  chewing-gum  variety. 

Deposit  currency  exhibits  a  high  degree  of  seasonal  elasticity, 
expanding  and  contracting  in  accordance  with  variations  in  trade 
demands.  It  is  the  only  truly  elastic  element  among  our  media  of 
exchange.  In  some  cities,  like  New  York  and  Chicago,  the  general 
movement  of  the  curves  for  the  circulation  of  deposit  currency  follows 
fairly  closely  those  for  the  relative  demand  for  loanable  capital.  In 
other  cities,  like  St.  Louis  and  San  Francisco,  while  the  parallelism 
is  not  so  close,  there  is,  however,  a  tendency  for  the  general  seasonal 
swing  of  the  deposit  currency  circulation  and  of  the  relative  demand 
for  moneyed  capital  to  be  similar. 

68.    INELASTICITY  OF  CURRENCY  FOR  SEASONAL  NEEDS' 

The  autumn  of  each  year  makes  more  apparent  the  urgent 
necessity  of  some  additional  facility  or  means  by  which  the  demand 
for  crop-moving  funds  can  be  supplied  to  the  people  without  derange- 
ment of  all  the  business  and  financial  affairs  of  the  country. 

As  has  been  so  often  said,  there  is  no  flexibility  or  elasticity  in  our 
currency.  The  necessity  for  this  is  always  most  acutely  felt  in  the 
late  summer  and  early  autumn,  or  at  the  crop-moving  time.  The 
two  ways  in  which  the  demand  for  funds  then  manifests  itself  are  in 
a  demand  for  an  increase  of  deposits  requiring  more  reserve  money 
and  for  cash  or  currency  to  make  cash  payments.  This  latter  demand 
has  to  be  largely  met  by  money  which  would  otherwise  be  available 
for  reserve.  The  withdrawal  of  this  reserve  money  reduces  the 
reserves  when  they  should  increase,  and  after  it  is  no  longer  needed 
for  cash  payments  the  money  returns  to  reserves  and  tends  to  inflate 
loan  credits  and  induce  speculation. 

The  real  solution  of  the  problem  is  to  enable  the  banks  to  supplv 
for  the  cash  transactions  bank  notes  not  available  for  reserves,  and 

■  Report  of  Comptroller  of  the  Currency,  1906,  p.  67. 


I40  PRINCIPLES  OF  MONEY  AND  BANKING 

which  therefore  do  not  contract  loans  when  paid  out  and  do  not  inflate 
them  when  they  return. 

Consider  for  the  moment  the  supply  of  crop-moving  funds,  which 
is  the  really  critical  point  in  this  question.  When  the  harvests  first 
begin  in  the  South  and  Southwest,  the  banks  at  oijce  feel  two  demands: 
first,  for  loans  to  the  people  who  must  provide  funds  to  buy  the  prod- 
ucts of  the  farm  and  plantation;  second,  for  currency  to  pay  the 
wages  of  labor  and  to  pay  for  such  products  as  must  be  paid  for  in 
actual  cash,  and  not  by  a  transfer  of  credits  by  check.  This  demand 
for  loans  to  be  kept  on  deposit  makes  more  reserve  money  necessary 
for  the  banks  to  hold,  and  at  the  same  time  they  must  supply  more 
currency  for  cash  transactions.  It  would  seem,  therefore,  perfectly 
axiomatic  to  anyone  that  the  best  way  to  meet  the  situation 
would  be  to  keep  in  the  banks  all  the  money  which  can  properly  be 
used  for  reserve  and  to  supply  for  cash  transactions  currency  which 
will  answer  all  necessary  requirements,  be  just  as  safe,  just  as  con- 
venient, and  just  as  good  in  every  way,  but  which  is  not  available 
as  bank  reserves.  This  can  be  done  simply,  easily,  and  automatically 
by  the  proper  use  of  the  right  kind  of  bank  notes,  and  in  no  other  way. 

69.    THE  TREASURY  AND  THE  BANKS:  HISTORICAL 
SUMMARY* 

By  DAVID  KINLEY 

1.  The  policy  of  the  government  with  reference  to  the  safe- 
keeping of  its  funds  has  been  variable.  For  the  first  few  years  after 
the  adoption  of  the  Constitution,  before  the  subject  attracted  serious 
public  attention,  there  was  no  specific  place  for  the  custody  of  the 
public  money,  and  it  was  left  largely  in  the  hands  of  collecting  and 
disbursing  ofl&cers. 

2.  During  the  existence  of  the  first  and  second  United  States 
banks,  that  is,  from  1796  to  181 1,  and  from  1816  to  1833,  the  date  of 
the  "removal  of  the  deposits,"  the  public  money  was  kept  mainly  in 
these  institutions  and  their  branches.  Nevertheless,  even  during 
these  periods  some  state  banks  were  employed. 

3.  In  the  interim  between  181 1  and  1816  the  pubUc  money  was 
kept  mainly  in  the  state-chartered  banks.  These  banks  were  also 
used  between  1833  and  1846,  the  date  of  the  establishment  of  the 
independent  treasury. 

•  Adapted  from  The  Independent  Treasury  of  the  United  States  and  Its  Relation 
to  the  Banks  of  the  Country,  pp.  323-30.     (National  ilonetary  Commission,  1910.) 


RELATIONS  BETWEEN  BANKS  141 

4.  Beginning  with  1847,  immediately  after  the  establishment  of 
the  independent  treasury,  the  public  money  was  kept  in  the  Treasury 
and  subtreasuries,  and  no  banks  were  used  until  after  the  establish- 
ment of  the  present  national  banking  system  in  1863.  Since  that 
time  the  depositary  banks  have  supplemented  the  use  of  the  sub- 
treasuries  as  places  for  the  keeping  of  the  public  money. 

5.  In  the  past  one  hundred  and  twenty  years,  therefore,  there  were 
only  seventeen,  1847-1864,  in  which  the  government  did  not  use 
depositary  banks  for  keeping  the  public  money. 

6.  The  evidence  therefore  shows  that  there  has  been,  uniformly, 
a  strong  tendency  for  the  government,  throughout  its  history,  to  use 
banks. 

7.  The  causes  of  this  tendency  are  shown  to  have  been  the  greater 
convenience  in  the  management  of  the  public  money,  the  desire  of 
the  Secretary  and  the  public  that  government  fiscal  operations  should 
interfere  as  little  as  possible  with  the  monetary  circulation  and  with 
business  conditions,  the  necessities  of  the  government,  and  pressure 
from  banking  and  other  interests. 

8.  Under  the  influence  and  pressure  described,  first  the  Secretary 
of  the  Treasury,  and  later  Congress,  have  given  way,  and  virtually 
abandoned  the  policy  of  independence  in  the  keeping  and  manage- 
ment of  public  money  which  was  established  by  the  act  of  August, 
1846.  Congress  authorized  the  use  of  national  banks  in  which  to 
deposit  receipts  from  internal  revenue.  With  some  vacillations  the 
extent  of  the  use  of  the  banks  as  depositaries  for  these  receipts  has 
steadily  increased.  By  recent  legislation  receipts  from  customs  may 
also  be  deposited  in  the  banks.  Under  the  first  interpretation  of  the 
law  permitting  these  deposits  they  could  accrue  only  as  the  collecting 
officers  placed  the  money  received  by  them  in  the  banks  and  not  from 
the  transfer  of  government  receipts  once  deposited  in  the  treasuries. 
By  later  practice  the  latter  method  of  deposit  has  also  been  adopted 
and  is  claimed  by  some  to  be  legal.  Under  present  practice  and 
legislation,  therefore,  the  Secretary  of  the  Treasur>'  has  a  free  hand  to 
put  any  and  all  receipts  of  public  money  in  the  depositary  banks. 
The  independence  of  the  Treasury  depends  entirely  upon  the  will 
of  the  Secretary. 

g.  A  further  departure  from  the  policy  of  independence  is  shown 
by  the  course  of  opinion  and  legislation  concerning  security  for 
deposits.  Under  the  law  as  passed  public  deposits  were  to  be  secured 
by  United  States  bonds  and  otherwise.    This  was  understood  to  mean 


142  PRINCIPLES  OV  MONEY  AND  BANKING 

United  States  bonds  in  addition  to  a  personal  bond.  Eight  years 
ago  the  phrase  was  differently  interpreted,  and  banks  were  permitted 
to  secure  deposits  on  the  basis  of  other  than  United  States  bonds  as 
security.  The  practice  thus  estabUshed  was  legaHzed  between  two 
and  three  years  ago. 

10.  At  first  the  banks  which  obtained  public  money  on  deposit 
were  expected  to  keep  a  reserve  against  it,  as  provided  by  the  law  of 
their  being.  Some  seven  or  eight  years  ago  this  practice  was  broken 
and  the  banks  allowed  to  hold  public  deposits  without  protecting 
them  by  a  reserve.  The  practice  thus  initiated  was  also  later  made 
legal. 

11.  Finally,  with  all  these  changes,  the  amount  of  public  money 
deposited  with  banks  has  steadily  increased,  until  at  one  time  in 
recent  years  only  a  comparatively  small  working  balance  was  kept 
in  hand  by  the  Treasury  itself. 

70.    RESULTS  OF  THE  ISOLATION  OF  PUBLIC  FUNDS' 
By  MURRAY  S.  WILDMAN 

Since  our  federal  revenue  is  so  largely  derived  from  indirect 
taxation,  the  streams  rise  and  fall  with  the  course  of  certain  lines  of 
trade  and  rarely  coincide  with  disbursements  over  any  considerable 
period.  Owing  to  this  uncertainty  in  the  rate  of  income,  there  is 
nearly  always  a  surplus  and,  normally,  the  excess  of  income  over 
outgo  determines  the  magnitude  of  the  treasury  hoard  and  the  amount 
of  the  circulating  medium  of  the  country  condemned  to  idleness. 

These  sums  are  significant  from  the  point  of  view  of  their  absolute 
magnitude  and  also  from  that  of  their  variability.  In  all  cases  they 
consist  of  money  capable  of  use  as  bank  reserves.  It  is  true  that 
national  banks  may  not  count  bank  notes  as  part  of  their  reserves, 
but  since  such  notes  are  used  as  reserve  by  state  and  private  banks 
the  distinction  may  be  ignored.  It  may  be  said  also  that  the  cash 
reserve  of  banks  is  made  up  of  the  surplus  circulation  of  the  country. 
So  long  as  there  is  a  deficiency  of  money  for  the  needs  of  trade  it  will 
not  be  deposited,  or  if  deposited  will  not  remain  in  the  hands  of  the 
bank.  It  follows  that  this  entire  sum,  if  not  held  by  the  Treasury, 
would  be  added  to  the  bank  reserves,  eliminating  exports  of  gold,  and 
would  increase  the  cash  holdings  of  all  institutions  doing  a  banking 

'Adapted  from  "The  Independent  Treasury  and  the  Banks,"  Annals  of  the 
American  Academy  of  Political  and  Social  Science,  XXXVI  (1910),  576-81. 


RELATIONS  BETWEEN  BANKS  143 

business.  The  effect  of  such  an  increase  in  cash  reserves  would 
depend  on  various  circumstances.  In  the  case  of  some  banks  it 
would  further  establish  the  convertibility  of  their  demand  liabilities 
without  affecting  the  magnitude  of  these  liabiUties.  In  the  case  of 
others,  by  increasing  the  lending  power  it  would  tend  to  decrease  the 
the  rate  of  discount  and  so  the  cost  of  conducting  business  in  general. 
This  diminution  in  the  costs  of  competitive  business,  other  factors 
remaining  constant,  would  tend  to  lower  prices  of  consumers'  goods. 

The  first  and  most  obvious  objection  to  our  practice  is  found  in 
the  social  loss  involved  in  the  idleness  of  pecuniary  capital. 

The  waste  involved  in  the  idleness  of  pubUc  funds  is  less  objection- 
able than  the  successive  expansion  and  contraction  of  reserves  which 
result  from  the  receipt  and  disbursement  of  revenue.  One  phase  of 
this  movement  may  be  illustrated  by  the  simple  case  of  a  pension 
disbursement.  On  August  4  the  Treasury  drew  pension  checks 
amounting  to  $14,970,000  and  distributed  them  throughout  the 
country.  About  half  of  this  sum  was  drawn  upon  the  assistant 
treasurer  at  New  York.  Coming  into  the  hands  of  country  banks, 
cashed  or  deposited,  these  checks  are  mailed  to  New  York  correspond- 
ent banks  for  credit.  In  a  few  days  this  mass  of  checks  is  presented  to 
the  New  York  subtreasury  through  the  clearing-house  and  an  equiva- 
lent amount  of  money  is  transferred  from  the  subtreasury  to  the 
banks,  whose  combined  reserves,  in  the  absence  of  countervailing 
debits,  are  increased  $7,000,000.  Without  any  alteration  in  the 
aggregate  wealth  of  the  country  or  even  of  New  York  City  the  lending 
power  of  New  York  banks  is  raised  about  $28,000,000.  In  order  that 
this  new  source  of  profit  may  be  utilized,  since  nothing  in  the  situation 
operates  immediately  to  stimulate  the  demand  from  commercial 
sources,  the  competition  of  banks  in  an  effort  to  place  their  funds 
lowers  the  call-loan  rate.  This  reduces  the  cost  of  carrying  stocks 
and  stimulates  speculation  for  the  rise  in  Wall  Street. 

To  reverse  the  illustration,  let  us  suppose  tliat  the  collection  of 
duties  at  the  port  of  New  York  in  a  given  week  reaches  the  not  uncom- 
mon sum  of  $10,000,000.  This  amount  of  money  is  drawn  from  local 
banks  and  trust  companies  and  locked  up  in  the  sub  treasury- .  In  as 
far  as  the  effect  on  reserves  and  lending  power  is  concerned,  it  might 
quite  as  well  have  been  sunk  in  New  York  harbor.  The  I'ate  for  call 
loans  rises,  stocks  fall,  or  commercial  paper  which  other%vise  would 
have  found  a  ready  market  remains  unsold  and  the  production  and 
exchange  of  goods  may  be  curtailed 


144  TKINCIPLES  OF  MONEY  AND  BANKING 

Unable  to  foresee  these  fluctuations  in  reserves  and  the  conse- 
quent fluctuations  in  the  lending  power  of  his  banker,  the  merchant  is 
constrained  to  carry  a  much  larger  cash  reserve  (bank  deposit)  than 
would  be  carried  otherwise,  and  the  interest  on  this  is  the  price  he 
pays  for  this  particular  form  of  insurance,  a  charge  that  is  ultimately 
shifted  to  the  consumers  of  the  goods  he  offers  for  sale  or  to  the  pro- 
ducer from  whom  he  buys.  By  the  same  token  each  banker  in  a 
system  which  presupposes  independence  and  the  absence  of  any  joint 
responsibility  carries  a  large  fund  of  capital  devoted  to  no  more 
productive  purpose  than  as  an  insurance  fund.  This  fund  of  ready 
money  tends  to  be  largest  in  times  of  stress  when  the  needs  of  com- 
merce are  greatest.  This  added  cost  to  the  banker's  business  is  paid 
in  higher  discount  rates  and  tends  to  shift  to  the  price  of  commodities. 

The  largest  source  of  revenue  is  in  the  import  duties,  amounting 
in  the  fiscal  year  ending  in  1910  to  $333,683,445.03.  About  two- 
thirds  of  these  duties  are  paid  into  the  subtreasury  at  New  York, 
mainly  from  the  banks  of  that  city,  and  a  corresponding  large  part  of 
the  disbursements  are  made  from  the  sub  treasury  and  pass  to  the 
local  bank  reserves.  It  happens  that  gold  drawn  for  export  is  taken 
from  the  same  group  of  banks.  New  York  bank  reserves  stand  in  a 
peculiar  relation  therefore  to  our  foreign  trade.  When  imports  of 
commodities  are  heavy  the  payment  of  duties  tends  to  coincide  with 
a  rise  in  foreign  exchange  and  with  threatened  or  actual  gold  exports, 
causing  a  double  drain  of  bank  reserves.  In  this  situation  it  would 
be  suicidal  for  New  York  bankers  to  purchase  time  paper  with  the 
same  liberality  as  can  be  practiced  by  the  bankers  of  Chicago  or 
St.  Louis.  In  order  to  protect  themselves  against  this  double  drain 
of  funds  they  must  lend  a  large  portion  of  their  funds  on  call  for  use 
in  stock  exchange  speculation,  or  else  adopt  the  alternative  policy  of 
excessive  reserves.  Our  fiscal  system  therefore  is  one  of  the  instru- 
ments that  promotes  excessive  stock  exchange  speculation  in  this 
country. 

71.    TREASURY  AID  FOR  SEASONAL  STRLNGENCY^ 

A.      THE  AUTUMN   OF    1912 

An  interesting  economic  condition  due  to  the  heav>^  business 
demands  upon  the  banks  is  again  seen  in  the  reduction  of  reserves 
and  the  renewed  appeal  to  the  national  treasury  for  help.     Practically 

■  From  "Washington  Notes"  in  Journal  of  Political  Economy,  XX  (1912),  957. 


RELATIONS  BETWEEN  BANKS  I45 

since  the  end  of  August  there  has  been  very  strong  interest  among 
bankers  and  the  more  forcsighted  business  pubHc  with  reference  to 
bank  conditions.  It  was  early  admitted  that  the  large  crop  movement 
would  necessitate  the  granting  of  extensive  accommodation  by  the 
banks  with  corrresponding  pressure  on  reserves.  During  the  latter 
half  of  September  the  decline  of  reserves  in  the  clearing-house  cities 
had  been  very  severe,  and  in  several  places  the  banks  were  forced 
close  to  the  danger  line.  The  consequence  was  a  loud  call  for  govern- 
ment aid.  In  deference  to  these  demands,  Secretary  MacVeagh, 
who  has  had  about  $90,000,000  that  might  at  a  pinch  have  been 
deposited,  had  ordered  an  inquiry  into  the  situation  by  officers  of  the 
Treasury  Department.  The  outcome  of  this  inquiry  was  an  unofficial 
announcement  at  the  opening  of  October  that  no  Treasury  deposits 
would  be  made,  followed  shortly  thereafter  by  an  equally  unofficial 
statement  of  a  plan  for  the  limited  relief  of  the  national  banks.  This 
plan  consisted  in  the  placing  with  the  banks  of  gold  or  gold  funds 
equal  to  any  amounts  importation  of  which  might  be  arranged  for, 
such  funds  to  be  available  as  soon  as  provision  should  be  made  for 
the  importations  desired.  This  was  practically  a  revival  of  the  plan 
followed  by  Leslie  M.  Shaw  when  Secretary  of  the  Treasury,  whereby 
tlie  banks  were  permitted  to  count  as  part  of  their  reserves  any 
importation  of  gold  they  might  engage  from  abroad  so  soon  as  such 
arrangements  had  been  entered  into.  The  only  difference  between 
the  original  Shaw  plan  and  the  present  undertaking  of  the  Treasury 
is  that  the  latter  takes  the  government  gold  from  the  vaults  and  places 
it  in  the  hands  of  the  banks  as  soon  as  officials  are  assured  that  they 
arc  protected  by  a  bona  fide  arrangement  made  by  the  bank  in 
question  with  a  foreign  shipper. 

B.      THE   AUTUMN   OF    1913^ 

Toward  the  latter  part  of  July  symptoms  of  uneasiness  began  to 
reappear.  There  was  much  talk  about  the  difficulty  of  moving  the 
fall  crops,  and  the  annual  apprehension  on  this  score  began  to  stalk 
aliout  the  country  with  more  than  usual  vigor.  It  is  a  characteristic 
of  our  imperfect  and  unsatisfactory  banking  system  that  the  very 
prosperity  of  the  country  becomes,  at  times,  a  menace,  because  of  the 
apprehended  inaliility  of  the  banks  to  meet  the  seasonal  demand  for 
the  large  amounts  of  money  required  to  move  a  bounteous  harvest. 
Conditions  were  again  becoming  acute  when  the  Secretary  determined 

'  From  Annual  Report  of  Secretary  of  the  Treasury,  Finance,  1913,  pp.  2-4. 


146  PRINCII'LKS  OI'  MONEY  AND  BANKING 

to  deposit  from  twcnty-fivc  millions  lo  fifty  millions  of  dollars  of 
government  funds  in  the  national  banks  in  those  parts  of  the  country 
where  the  necessity  for  funds  to  move  crops  existed.  The  Secretary 
announced  that,  as  security  for  such  deposits,  high-class  commercial 
paper  would  be  accepted  at  65  per  cent  of  its  face  value,  bearing  the 
indorsement  of  the  depository  bank.  This  was  an  unprecedented 
step,  because  commercial  paper  had  never  before  been  accepted  as 
security  for  government  deposits.  It  was,  however,  a  necessary  and 
highly  beneficial  step,  because  it  enabled  the  banks  to  obtain  the 
required  funds  upon  the  pledge  of  available  paper  already  in  their 
vaults.  If  the  banks  had  been  obliged  to  secure  these  deposits  with 
government  bonds  or  other  fixed  investments,  the  relief  would  not 
have  been  effective,  because  many  of  the  banks  would  have  been 
compelled  to  use  the  deposits  for  the  purchase  of  the  bonds  required 
by  the  Government  as  security. 

In  order  to  distribute  intelligently  the  crop-moving^  deposits, 
three  conventions  of  bankers  were  held  at  the  Treasury  Department 
in  Washington  during  August,  1913,  the  first  composed  of  bankers 
from  the  Southern  and  Southwestern  states;  the  second  composed 
of  bankers  from  the  Middle  Western  and  Northwestern  states;  the 
third  composed  of  bankers  from  the  Pacific  Coast  and  Rocky 
Mountain  states.  It  was  not  necessary  to  extend  aid  to  the  Eastern 
states,  although  the  Department  was  ready  to  do  so  if  it  had  been 
required. 

It  was  essential  that  the  action  of  the  Department  should  be 
non-partisan  and  non-political;  the  crops  of  Republicans,  Democrats, 
Progressives,  and  all  other  classes  of  the  people  had  to  be  moved,  and 
the  earnest  desire  of  the  Department  was  to  have  the  benefits  of  this 
action  diffused  as  widely  and  impartially  as  possible.  The  clearing- 
house associations  in  each  of  the  cities  invited  to  participate  in  the 
conferences  were  asked,  therefore,  to  name  the  delegates.  A  most 
interesting  and  intelligent  body  of  men  assembled  in  Washington  and 
discussed  with  the  Secretary  and  Assistant  Secretary  Williams  (in 
charge  of  the  fiscal  bureaus)  the  needs  of  their  several  communities 
and  sections.  As  a  result,  allotment  of  these  funds  was  made  upon 
the  basis  of  the  testimony  of  their  several  representatives,  as  follows: 

Middle  and  Southwest $22,550,000 

Middle  and  Northwest 19,000,000 

Pacific  Coast  and  Rocky  Mountain 4,950,000 

Total $46,500,000 


RELATIONS  BETWEEN  BANKS  147 

The  Department,  having  no  machinery  for  the  investigation  of 
local  credits,  was  obliged  to  rely  upon  the  banks  in  the  larger  cities 
as  instrumentalities  for  the  distribution  of  government  funds  to  the 
banks  in  the  smaller  communities.  In  the  discussions  at  Washington, 
the  representatives  of  the  banks  were  urged  to  pass  the  government 
funds  on  to  their  country  correspondents  upon  reasonable  terms. 
The  Secretary  is  gratified  to  be  able  to  say  that  in  most  instances  this 
was  done  on  a  basis  that  seemed  fair  to  all  concerned. 

The  effect  of  this  action  was  highly  beneficial.  Confidence  was 
restored.  The  readiness  of  the  Government  to  meet  every  reasonable 
need  of  the  banks  for  the  legitimate  purposes  of  crop-moving  had 
the  effect,  so  the  Department  is  informed,  of  causing  much  hoarded 
money  to  be  deposited  in  the  banks.  This  increased  their  ability 
to  take  care  of  their  customers,  and  caused  a  decided  relaxation  in 
the  demands  of  country  correspondents  for  accommodation,  which, 
prior  to  the  announcement  of  the  Secretary,  had  been  much  greater 
than  usual,  because  the  small  banks  were  attempting,  very  naturally, 
to  impound  all  the  funds  they  could  get  to  make  them  safe  against 
the  anticipated  stringency.  The  moment  it  became  known  that  the 
Government  stood  ready  to  assist,  the  tension  was  relieved,  business 
resumed  a  normal  aspect,  and  the  fall  movement  of  crops,  trade,  and 
commerce  proceeded  upon  an  easier  and  safer  basis  than  for  many 
years  past. 

It  is  interesting  to  note  that  of  the  fifty  million  dollars  which  the 
Department  offered  to  place  in  the  banks  for  crop-moving  purposes 
only  $34,661,000  had  been  called  for  up  to  November  25,  1913. 
These  funds  will  be  gradually  repaid  to  the  Treasury  beginning  in 
January,  19 14. 

(b)  Cyclical 

72.    THE  PERIODICITY  OF  FLUCTUATIONS  IN  TRADE' 
By  S.  J.  CHAPMAN 

Everybody  knows  that  production  does  not  flow  along  uninter- 
ruptedly. It  has  its  ups  and  downs.  Periods  of  brisk  business  are 
followed  by  periods  of  stagnation.  Some  unsteadiness  in  trade  we 
should  naturally  be  prepared  to  find,  for  there  are  vicissitudes  in  all 
human    affairs;     but    certain    peculiarities    characterize    the   broad 

•  Adapted  from  Outlines  of  Political  Economy,  pp.  254-55-  By  [Jermission  of 
Longmans,  Green,  &  Co.,  1913. 


148  PRINCIPLES  OF  MONEY  AND  BANKING 

fluctuations  of  trade  which  one  would  not  expect  and  which  call  for 
explanation.  These  peculiarities  we  may  designate  "synchronism" 
and  "periodicity." 

Good  times  in  the  different  industries  tend  to  synchronize  or 
come  more  or  less  simultaneously.  And  so  do  bad  times.  There 
are  numerous  exceptions,  but  the  rule  seems  to  be  that  most  indus- 
tries arc  every  now  and  then  depressed  together,  and  every  now  and 
then  flourish  together.  Moreover,  synchronism  appears  to  hold  inter- 
nationally. When  commerce  is  sluggish  in  one  country  it  tends  to  be 
sluggish  also  in  other  countries.  "^ 

The  periodicity  of  fluctuations  in  trade  means  that  the  intervals 
between  the  fluctuations  are  not  of  quite  uncertain  duration.  Regu- 
larity is  far  from  being  perfect,  but  it  is  suf&cient  to  warrant  the 
assertion  that  trade  fluctuations  exhibit  a  degree — a  comparatively 
high  degree — of  periodicity.  They  are  like  the  disturbed  oscillations 
of  a  pendulum  when  a  kitten  is  playing  with  it.  It  used  to  be  claimed 
that  the  time  normally  occupied  by  a  trade  cycle  was  ten  or  eleven 
years.  But  departures  from  this  duration  are  not  uncommon;  and 
it  has  recently  been  suggested  that  the  wave-length  of  a  trade  cycle 
inclines  to  be  about  twice  or  three  times  a  period  of  approximately 
three  and  a  half  years.  Thus  the  cycle,  it  is  said,  may  be  expected 
to  cover  seven  years  at  least  and,  should  it  exceed  this  length,  to 
extend  to  about  ten  and  a  half  years.  But,  unfortunately,  the  evi- 
dence which  has  been  collected  and  sifted  so  far  is  too  scanty  to 
justify  an  unhesitating  generalization.  Of  commercial  fluctuations 
prior  to  the  nineteenth  century  we  are  comparatively  ignorant,  and 
it  is  not  known  how  far  the  cyclical  movement  reaches  back. 

73.    CRISES  AND  PANICS  IN  THE  UNITED  STATES 

While  there  were  some  earlier  disturbances  of  importance,  it  is 
generally  agreed  that  the  first  panic  in  the  United  States  occurred  in 
August,  1814.  It  was  a  direct  result  of  the  capture  of  Washington 
by  the  British  on  August  24,  though  the  disruption  of  trade  and  the 
exigencies  of  war  financing  were  contributing  factors. 

The  first  genuine  economic  crisis  in  the  United  States,  however, 
occurred  in  18 19.  It  was  an  outgrowth  of  the  abnormal  expansion  of 
manufacturing  industries  occasioned  by  the  embargo  and  the  War 
of  1S12  and  by  the  necessary  readjustments  that  follow  a  period  of 
inflated  paper  currency.  Not  until  late  in  182 1  did  commerce  and 
industry  begin  to  revive. 


RELATIONS  BETWEEN  BANKS  149 

Both  of  these  early  crises  were  distinctively  local  and  dependent 
upon  national  rather  than  international  causes. 

There  followed  a  period  of  j^reat  prosperity  and  rapid  territorial 
and  business  expansion,  which  continued  with  but  slight  interruptions 
until  1837.  In  1824  there  was  an  industrial  boom,  and  in  1826  there 
was  a  reaction,  due,  in  part,  to  the  European  crisis  of  December,  1S25; 
but  these  were  merely  temporary  deviations  from  an  othervuse 
steady  expansion. 

The  crisis  culminating  in  the  disastrous  panic  of  May,  1837,  is 
associated  with  an  undue  extension  of  banking  and  credit,  an  over- 
provision  of  public  roads,  canals,  and  railways,  and  excessive  specu- 
lation in  western  lands.  Recovery  from  the  panic  was  very  slow; 
indeed,  it  was  more  than  a  year  before  the  banks  resumed  specie  pay- 
ments. A  period  of  depression  followed  until  the  summer  of  1S43, 
a  premature  revival  in  1838  and  1839  resulting  in  a  multitude  of 
failures. 

A  general  revival  of  trade  began  in  the  autumn  of  1843  and  con- 
tinued without  much  interruption  until  1857.  The  European  crisis 
of  1S47  exercised  little  influence  here,  owing  to  good  crops  and  heavy 
e.xportations.  There  was,  however,  a  minor  crisis  in  1848,  occasioned 
in  the  main  by  the  Mexican  War.  The  period  of  rapid  expansion 
came  to  a  head  in  the  very  sudden  and  sharp  crisis  of  August,  1S57. 
While  the  financial  disturbance  appears  to  have  been  more  acute  than 
in  1837,  industry  and  commerce  were  much  less  seriously  affected, 
and  in  consequence  the  succeeding  period  of  depression  was  less  uni- 
versal in  its  effects.  The  depression  reached  its  worst  in  1859. 
Conditions  were  rapidly  on  the  mend  in  i860,  but  the  outbreak  of  war 
in  1 86 1  so  disarranged  the  financial  and  industrial  affairs  of  the  nation 
that  the  return  of  prosperity  was  postponed  for  a  half-dozen  years. 
There  was  a  great  crisis  in  England  in  1866  which  the  war,  no  doubt, 
enabled  us  to  escape. 

Following  the  Civil  War  we  entered  upon  a  new  era  of  industrial 
e.xpansion.  Wide  areas  of  agricultural  lands  were  opened  up,  immi- 
gration was  heavy,  railroads  were  built  on  a  scale  hitherto  undreamed 
of — built  far  ahead  of  settlements  and  the  demands  of  trade.  It  was 
a  period  also  of  wild  speculation,  dishonesty,  and  extravagance. 
The  great  crisis  of  1873  affected  practically  every  operation  of  com- 
merce and  finance  and  shook  the  credit  fabric  to  its  very  foundations. 
The  succeeding  depression  was  unprecedented  in  its  severity  and 
duration,  continuing  in  most  branches  of  industry  until  the  end  of 


I50  i'RiN(;ii"Li;s  OF  monky  and  banking 

187S,  and  in  some  lines  until  1879.  Tlie  largest  number  of  failures 
occurred  in  the  year  1878. 

Prosperity  returned  with  bountiful  harvests  and  the  resumption 
of  specie  payments  in  1879.  A  period  of  world-wide  prosperity  was 
marked  in  the  United  States  by  another  era  of  enormous  railroad 
building,  industrial  expansion,  and  extravagant  living,  which  ended 
in  the  minor  crisis  of  May,  1884.  The  downward  movement  con- 
tinued until  1886;  after  the  recovery  there  was  a  season  of  moderate 
activity  until  1890.  The  great  crisis  in  Europe,  attending  the  failure 
of  the  famous  English  banking  house  of  Baring  Brothers,  near  the 
end  of  the  year  1890,  was  felt  acutely  in  the  United  States,  though 
we  escaped  a  complete  breakdown,  the  enormous  crops  and  hea\^ 
exports  of  1891  tiding  us  over  the  threatening  situation  for  another 
year  or  two.  But  in  May,  1893,  we  again  went  to  the  wall  with  a 
panic  which  in  many  respects  was  even  more  severe  than  that  of 
1873.  This  crisis,  however,  was  complicated  by  the  unstable  mone- 
tary standard  of  the  time;  by  many  it  has  been  called  a  monetary 
rather  than  a  financial  crisis.  It  was  doubtless  a  result  of  combined 
influences.     The  depression  continued  until  1896. 

Along  with  the  whole  commercial  world,  in  1897  we  entered  upon 
another  great  period  of  expansion,  which  was  accelerated  after  the 
Spanish  War  and  continued  with  but  minor  reactions  until  the  autumn 
of  1907.  The  crisis  which  ended  in  the  panic  of  October,  1907,  was 
marked  by  all  the  usual  manifestations  of  such  periods,  and  the 
depression  which  followed  continued  for  more  than  a  year.  The 
succeeding  years  have  been  marked  by  great  business  and  banking 
uncertainty,  consequent  upon  extensive  legislative  experiments, 
Mexican  troubles,  and  the  European  war.  The  outbreak  of  war 
in  Europe  occasioned  a  severe  financial  crisis  and  near  panic  in 
the  United  States,  fortunately  tided  over  successfully  by  the  use  of 
emergency  currency. 

74.    THE  RHYTHM  OF  BUSINESS  ACTIVITY' 
By  WESLEY  C.  MITCHELL 

With  whatever  phase  of  the  business  cycle  analysis  begins,  it 
must  take  for  granted  the  conditions  brought  about  by  the  preceding 
phase,  postponing  explanation  of  these  assumptions  until  it  has  worked 
around  the  cycle  and  come  again  to  its  starting-point. 

'  Adapted  from  Business  Cycles,  pp.  571-79.  (Copyright  by  the  author,  1913. 
Published  by  the  University  of  Cahfornia  Press.) 


RELATIONS  BETWEEN  BANKS  151 

A  revival  of  activity,  then,  starts  with  a  legacy  from  depression: 
a  level  of  prices  low  in  comparison  with  the  prices  of  prosperity, 
drastic  reductions  in  the  costs  of  doing  business,  narrow  margins  of 
profit,  liberal  bank  reserves,  a  conservative  policy  in  capitalizing 
business  enterprises  and  in  granting  credits,  moderate  stocks  of  goods, 
and  cautious  buying. 

Such  conditions  are  accompanined  by  an  expansion  in  the  physical 
volume  of  trade.  Though  slow  at  first,  this  expansion  is  cumulative. 
In  time  an  increase  in  the  amount  of  business  which  grows  more 
rapid  as  it  proceeds  will  turn  dullness  into  activity.  Left  to  itself  this 
transformation  is  effected  by  slow  degrees;  but  it  is  often  hastened 
by  some  propitious  event,  such  as  exceptionally  profitable  harvests 
or  hea\y  purchases  of  supplies  by  the  government. 

A  partial  revival  of  industry  soon  spreads  to  all  parts  of  the 
business  field.  For  the  active  enterprises  must  buy  materials  and 
current  supplies  from  other  enterprises,  the  latter  from  still  others, 
etc.  Meanwhile  all  enterprises  which  become  busier  employ  more 
labor,  use  more  borrowed  money,  and  make  higher  profits.  There 
results  an  increase  in  family  incomes  and  an  expansion  of  consumers' 
demands,  which  likewise  spreads  out  in  ever-widening  circles.  Shop- 
keepers pass  on  larger  orders  to  wholesale  merchants,  manufacturers, 
importers,  and  producers  of  raw  materials.  All  these  enterprises 
increase  the  sums  they  pay  to  employees,  lenders,  and  proprietors. 
In  time  the  expansion  of  orders  reaches  back  to  the  enterprises  from 
which  the  initial  impetus  was  received,  and  then  the  whole  comj^li- 
cated  series  of  reactions  begins  afresh  at  a  higher  pitch  of  intensity. 
All  this  while  the  revival  of  activity  is  instilling  a  feeling  of  optimism 
among  business  men. 

The  cumulative  expansion  of  the  physical  volume  of  trade  stops 
the  fall  in  prices  and  starts  a  rise.  For  when  enteq^rises  have  in 
sight  as  much  business  as  they  can  handle  with  existing  facilities,  they 
stand  out  for  higher  prices  on  additional  orders.  This  policy  pre- 
vails because  additional  orders  can  be  executed  only  by  breaking  in 
new  hands,  starting  new  machinery,  or  buying  new  equipment. 
The  expectation  of  its  coming  hastens  the  advance.  Buyers  are 
anxious  to  secure  large  supplies  while  the  quotations  continue  low, 
and  the  first  signs  of  an  upward  trend  bring  out  a  rush  of  orders. 

The  rise  of  ])rices  spreads  rapidly,  for  every  advance  puts  pressure 
on  someone  to  recoup  himself  Ijy  advancing  the  prices  of  what  he  has 
to  sell.    The  resulting  changes  in  price  are  far  from  even:    retail 


152  PRINCIPLES  OF  MONEY  AND  BANKING 

prices  lag  behind  wholesale  and  the  price  of  finished  products  behind 
the  price  of  raw  materials.  Among  the  last-mentioned  the  prices 
of  mineral  products  reflect  changed  business  conditions  more  regu- 
larly than  do  the  prices  of  forest  and  farm  products.  Wages  rise 
more  promptly  but  in  less  degree  than  wholesale  prices;  interest 
rates  on  long  loans  always  move  sluggishly  in  the  earlier  stages  of 
revival,  while  the  prices  of  stocks  both  precede  and  exceed  commodity 
prices  on  the  rise. 

In  a  great  majority  of  enterprises  larger  profits  result  from  these 
divergent  fluctuations,  coupled  with  the  greater  physical  volume  of 
sales.  For  while  the  prices  of  raw  materials  and  of  bank  loans  often 
rise  faster  than  selhng  prices,  the  prices  of  labor  lag  behind,  and  the 
prices  making  up  supplementary  costs  are  mainly  stereotyped  by  old 
agreements. 

The  increase  of  profits,  under  the  spell  of  optimism,  leads  to  a 
marked  expansion  of  investments.  The  heavy  orders  for  machinery, 
the  large  contracts  for  new  construction,  etc.,  which  result,  swell  still 
further  the  physical  volume  of  business  and  render  yet  stronger  the 
forces  which  are  driving  prices  upward. 

Indeed,  the  salient  characteristic  of  this  phase  of  the  business  cycle 
is  the  cumulative  working  of  the  various  processes  which  are  con- 
verting a  revival  of  trade  into  intense  prosperity.  Not  only  does 
every  increase  in  the  volume  of  trade  cause  other  increases,  every 
convert  to  optimism  make  new  converts,  and  every  advance  in  price 
furnish  an  incentive  for  new  advances;  but  the  growth  of  trade  also 
helps  to  spread  optimism  and  to  raise  prices,  while  optimism  and 
rising  prices  support  each  other.  Finally,  the  changes  going  forward 
swell  profits  and  encourage  investments,  while  high  profits  and  heavy 
investments  react  by  augmenting  trade,  justifying  optimism,  and 
raising  prices. 

While  the  processes  just  sketched  work  cumulatively  for  a  time 
to  enhance  prosperity,  they  also  cause  a  slow  accumulation  of  stresses 
within  the  balanced  system  of  business — stresses  which  ultimately 
undermine  the  conditions  upon  which  prosperity  rests. 

Among  these  is  the  gradual  increase  in  the  cost  of  doing  business. 
The  decUne  in  supplementary  costs  per  vuiit  ceases  when  enterprises 
have  secured  all  the  business  they  can  handle  with  their  standard 
equipment,  and  a  slow  increase  in  these  costs  begins  when  the  expira- 
tion of  old  contracts  makes  necessary  renewals  at  liigher  rates.  Mean- 
while prime  costs  rise  at  a  relatively  rapid  rate.  The  price  of  labor 
rises,  both  because  of  an  advance  in  nominal  wages  and  because  of 


RELATIONS  BETWEEN  BANKS  153 

higher  rates  for  overtime.  More  serious  is  a  decline  in  the  efl&ciency 
of  labor,  because  of  the  employment  of  undesirables  and  because 
crews  cannot  be  driven  at  top  speed  when  jobs  are  more  numerous 
than  men.  The  prices  of  raw  material  rise  faster  on  the  average  than 
the  selling  prices  of  products.  Finally,  numerous  small  wastes  creep 
up  when  managers  are  hurried  by  press  of  orders. 

A  second  stress  is  the  accumulating  tension  of  investment  and 
money  markets.  The  supply  of  funds  available  at  the  old  rates 
fails  to  keep  pace  with  the  sweUing  demand.  It  becomes  difl&cult  to 
negotiate  new  issues  of  securities  except  on  onerous  terms,  and  men 
of  affairs  complain  of  the  "scarcity  of  capital."  Nor  does  the  supply 
of  bank  loans,  limited  by  reserves,  grow  fast  enough  to  keep  up  with 
the  demand.  Active  trade  keeps  such  an  amount  of  money  in  circu- 
lation that  the  cash  left  in  the  banks  increases  rather  slowly.  On  the 
other  hand,  the  demand  for  loans  grows,  not  only  with  the  physical 
volume  of  trade,  but  also  with  the  rise  of  prices,  and  with  the  desire 
of  men  of  affairs  to  use  their  own  funds  for  controlUng  as  many 
businesses  as  possible. 

Tension  in  the  bond  and  money  markets  is  unfavorable  to  the 
continuance  of  prosperity,  not  only  because  high  rates  of  interest 
reduce  the  prospective  margins  of  profit,  but  also  because  they  check 
the  expansion  of  the  volume  of  trade  out  of  which  prosperity  develops. 
Many  projected  ventures  are  relinquished  because  borrowers  con- 
clude that  interest  would  absorb  too  much  of  their  profits. 

The  group  producing  industrial  equipment  suffers  especially. 
In  the  earlier  stages  of  prosperity  this  group  enjoys  exceptional 
activity.  But  when  the  market  for  bonds  becomes  stringent  and 
the  cost  of  construction  high,  business  enterprises  defer  the  execution 
of  plans  for  extending  old  or  erecting  new  plants.  As  a  result,  con- 
tracts for  this  kind  of  work  become  less  numerous  as  the  climax 
of  prosperity  approaches.  Then  the  steel  mills,  foundries,  machine 
factories,  lumber  mills,  construction  companies,  etc.,  find  their 
orders  for  future  delivery  falling  olT. 

The  larger  the  structure  of  prosperity  the  more  severe  become  these 
internal  stresses.  The  only  elective  means  of  preventing  disaster 
while  continuing  to  build  is  to  raise  selling  prices  time  after  time  high 
enough  to  offset  the  encroachment  of  costs  upon  profits  and  to  keep 
investors  willing  to  contract  for  frcsli  industrial  ec[uipment. 

But  it  is  impossible  to  keep  selling  prices  rising  for  an  indefinite 
time.    In  default  of  other  checks,  the  inadequacy  of  cash  reserves 


154  PRINCIPLES  or  MONEY  AND  BANKING 

would  ultimately  compel  the  banks  to  refuse  a  further  expansion  of 
loans  on  any  terms.  But  before  this  stage  has  been  reached  the  rise 
of  prices  is  stopped  by  the  consequences  of  its  own  inevitable  inequali- 
ties. These  become  more  glaring  the  higher  the  general  level  is 
forced;  after  a  time  they  threaten  serious  reductions  of  profits  to 
certain  business  enterprises,  and  the  troubles  of  these  victims  dissolve 
that  confidence  in  the  security  of  credits  with  which  the  whole  tower- 
ing structure  of  prosperity  has  been  cemented. 

In  certain  lines  in  which  selling  prices  are  stereotyped  by  law,  by 
contracts  for  long  terms,  by  custom,  or  by  business  policy,  selling 
prices  cannot  be  raised  to  prevent  a  reduction  of  profits.  In  other 
lines  prices  are  always  subject  to  the  incalculable  chances  of  the  har- 
vests. In  some  lines  the  recent  construction  of  new  equipment  has 
increased  the  capacity  for  production  faster  than  the  demand  for 
wares  has  expanded  under  the  repressing  influence  of  high  prices. 
The  unwillingness  of  investors  to  let  fresh  contracts  threatens  loss 
not  only  to  the  contracting  firms  but  to  the  enterprises  from  which 
they  buy  materials.  Finally,  the  success  of  some  enterprises  in  raising 
prices  fast  enough  to  defend  their  profits  aggravates  the  difficulties 
of  the  men  who  are  in  trouble. 

As  prosperity  approaches  its  height,  then,  a  sharp  contrast 
develops  between  the  business  prospects  of  different  enterprises. 
Many  are  making  more  money  than  at  any  previous  stage  in  the 
business  cycle.  But  an  important  minority  faces  the  prospect  of 
declining  profits.  The  more  intense  prosperity  becomes  the  larger 
grows  this  threatened  group.  In  time  these  conditions  bred  by 
prosperity  will  force  radical  readjustment. 

Such  a  decline  of  profits  threatens  consequences  worse  than  the 
failure  to  reahze  expected  dividends.  For  it  arouses  doubt  about 
the  future  of  outstanding  credits.  Business  credit  is  based  pri- 
marily upon  the  capitalized  value  of  present  and  prospective  profits, 
and  the  volume  of  credits  outstanding  at  the  zenith  of  prosperity  is 
adjusted  to  the  great  expectations  which  prevail  when  affairs  are 
optimistic.  The  rise  of  interest  rates  has  already  narrowed  the 
margins  of  security  behind  credits  by  reducing  the  capitalized  value 
of  given  profits.  When  profits  begin  to  waver,  creditors  begin  to 
fear  lest  the  shrinkage  in  the  market  rating  of  business  enterprises 
which  owe  them  money  vnW  leave  no  adequate  security  for  repayment. 
Hence  they  refuse  renewals  of  old  loans  to  enterprises  which  cannot 
stave  off  a  decUne  in  profits  and  press  for  settlement  of  outstanding 
accounts. 


RELATIONS  BETWEEN  BANKS  155 

Thus  prosperity  ultimately  brings  on  conditions  which  start 
a  liquidation  of  the  huge  credits  which  it  has  piled  up.  And  in  the 
course  of  this  liquidation  prosperity  merges  into  crisis.  Once  begun, 
the  process  of  liquidation  extends  rapidly,  partly  because  most  enter- 
prises called  upon  to  settle  put  similar  pressure  on  their  own  debtors, 
and  partly  because  news  presently  leaks  out  and  other  creditors  take 
alarm. 

While  this  financial  readjustment  is  under  way  the  problem  of 
making  profits  is  subordinated  to  the  more  vital  problem  of  main- 
taining solvency.  Business  managers  nurse  their  financial  resources 
rather  than  push  their  sales.  In  consequence  the  volume  of  new 
orders  falls  off  rapidly.  The  prospect  of  profits  is  dimmed.  Expan- 
sion gives  place  to  contraction.  Discount  rates  rise  higher  than 
usual,  securities  and  commodities  fall  in  price,  and  working  forces  are 
reduced.  But  there  is  no  epidemic  of  bankruptcy,  no  run  upon 
banks,  and  no  spasmodic  interruption  of  ordinary  business  processes. 

Crises,  however,  may  degenerate  into  panics.  When  the  process 
of  liquidation  reaches  a  weak  link  in  the  chain  of  interlocking  credits 
and  the  bankruptcy  of  some  conspicuous  enterprise  spreads  unreason- 
ing alarm,  the  banks  are  suddenly  forced  to  meet  a  doubled  strain — 
a  sharp  increase  in  the  demand  for  loans  and  the  demand  for 
repayment  of  deposits.  If  the  banks  meet  both  demands,  the  alarm 
quickly  subsides.  But  if  many  solvent  business  men  are  refused 
accommodation  at  any  price  and  depositors  are  refused  payment 
in  full,  the  alarm  turns  into  a  panic.  A  restriction  of  payments  by 
banks  gives  rise  to  a  premium  on  currency,  to  hoarding  of  cash,  and 
to  the  use  of  various  unlawful  substitutes  for  money.  Interest  rates 
may  go  to  three  or  four  times  their  usual  figures,  causing  forced  sus- 
pensions and  bankruptcies.  There  follow  appeals  to  the  government 
for  extraordinary  aid,  frantic  efforts  to  import  gold,  the  issue  of 
clearing-house  loan  certificates,  and  an  increase  in  bank-note  cir- 
culation as  rapidly  as  the  existing  system  permits.  Collections  fall 
into  arrears,  workmen  are  discharged,  stocks  fall  to  extremely  low 
levels,  commodity  prices  are  disorganized  by  sacrifice  sales,  and  the 
volume  of  business  is  violently  contracted. 

There  follows  a  period  during  which  depression  spreads  over  the 
whole  field  of  business  and  grows  more  severe.  Consumer's  demand 
declines  in  conscriuence  of  wholesale  discharge  of  wage-earners.  With 
it  falls  the  business  demand  for  raw  materials,  current  sui)plics,  and 
equipment.     Still   more  severe   is   the  shrinkage   in    the   investor's 


1 56  PRINCIPLKS  OF  MONEY  AND  BANKING 

(k'liiand  for  construction  work  of  all  kinds.  The  contraction  in  the 
physical  volume  of  business  which  results  from  these  shrinkages  in 
demand  is  cumulative,  since  every  reduction  of  employment  causes 
a  reduction  in  consumer's  demand,  thereby  starting  again  the  whole 
series  of  reactions  at  a  higher  pitch  of  intensity. 

With  this  contraction  goes  a  fall  in  prices.  For  when  current 
orders  are  insufficient  to  employ  the  existing  equipment  competition 
for  business  becomes  keener.  This  decUne  spreads  through  the 
regular  commercial  channels  which  connect  one  enterprise  with 
another,  and  is  cumulative,  since  every  reduction  in  price  facilitates 
reductions  in  other  prices,  and  the  latter  reductions  react  to  cause 
fresh  reductions  at  the  starting-point. 

The  fall  in  prices  is  characterized  by  certain  regularly  recurring 
differences  in  degree.  Wholesale  prices  fall  faster  than  retail  and  the 
prices  of  raw  materials  faster  than  those  of  manufactured  products. 
The  prices  of  raw  mineral  products  follow  a  more  regular  course  than 
those  of  forest  or  farm  products.  Wages  and  interest  on  long-time 
loans  decline  in  less  degree  than  commodity  prices.  The  only  impor- 
tant group  of  prices  to  rise  is  high-grade  bonds. 

The  contraction  in  the  volume  of  trade  and  the  fall  in  prices 
reduce  the  margin  of  present  and  prospective  profits,  spread  dis- 
couragement, and  check  enterprise.  But  they  also  set  in  motion 
certain  processes  of  readjustment  by  which  the  depression  is  overcome. 
The  prime  costs  of  doing  business  are  reduced  by  the  fall  in  the 
prices  of  raw  material  and  of  bank  loans,  by  the  marked  increases 
in  the  efl&ciency  of  labor  which  comes  when  employment  is  scarce, 
and  by  closer  economy  by  managers.  Supplementary  costs  are 
reduced  by  reduction  of  rentals  and  refunding  of  loans,  by  unriting 
down  depreciated  properties,  and  by  admitting  that  a  recapitalization 
has  been  effected  on  the  basis  of  lower  profits. 

While  costs  are  being  reduced,  the  demand  for  goods  begins 
slowly  to  expand.  Accumulated  stocks  left  over  from  prosperity  are 
exhausted,  and  current  consumption  requires  current  production. 
Clothing,  furniture,  and  machinery  are  discarded  and  replaced.  New 
tastes  appear  among  consumers  and  new  methods  among  producers, 
giving  rise  to  demand  for  novel  products.  Most  important  of  all, 
the  investment  demand  for  industrial  equipment  revives.  Capital- 
ists become  less  timid  as  the  crisis  recedes  into  the  past,  the  low  rates 
of  interest  on  long-time  bonds  encourage  borrowing,  and  contracts 
can  be  let  on  most  favorable  conditions. 


RELATIONS  BETWEEN  BANKS  157 

Once  these  forces  have  set  the  physical  volume  of  trade  to  expand- 
ing the  increase  proves  cumulative.  Business  prospects  become 
gradually  brighter.  Everything  awaits  a  revival  of  activity  which 
will  begin  when  some  fortunate  circumstance  gives  a  fillip  to  demand, 
or,  in  the  absence  of  such  an  event,  when  the  slow  growth  of  the  volume 
of  business  has  filled  order  books  and  paved  the  way  for  a  new  rise 
in  prices.  Such  is  the  stage  of  the  business  cycle  with  which  the 
analysis  begins,  and,  having  accounted  for  its  own  beginning,  the 
analysis  ends. 

75.    SEASONAL  VARIATIONS  AND  PANICS* 
By  EDWIN  WALTER  KEMMERER 

It  has  been  found  that  the  two  periods  of  the  year  in  which  the 
money  market  is  most  likely  to  be  strained  are  the  periods  of  the 
"spring  revival,"  about  !March,  April,  and  early  May,  and  that  of 
the  crop-moving  demand  in  the  fall;  and  that  the  two  periods  of 
easiest  money  market  are  the  "readjustment"  period,  extending  from 
aljout  the  middle  of  January  to  nearly  the  ist  of  March,  and  the  period 
of  the  summer  depression,  extending  through  the  three  summer 
months.  Of  the  eight  panics,  four  occurred  in  the  fall  or  early 
winter  (i.e.,  those  of  1873,  1890,  1899,  and  1907),  and  these  four 
included  two  of  the  three  really  severe  panics  of  the  period  (i.e., 
those  of  1873  and  1907);  three  occurred  in  May  (i.e.,  those  of  1884, 
1893,  and  1901);  and  one  (i.e.,  that  of  1903),  probably  the  least  im- 
portant one  from  the  standpoint  of  the  country  as  a  whole,  extended 
from  March  until  well  along  in  November. 

The  evidence  accordingly  points  to  a  tendency  for  panics  to 
occur  during  the  seasons  normally  characterized  by  stringent  money 
markets.  This  does  not  mean  that  the  seasonal  stringencies  are  the 
causes  of  the  panics;  it  does  mean  that  the  months  in  which  they 
occur  are  the  weakest  links  in  the  seasonal  chain,  and  that  in  periods 
of  extraordinary  tension  the  chain  breaks  at  these  links. 

76.    THE  PERIOD  OF  DEPRESSION* 

A  few  facts  and  figures  will  indicate  the  extent  of  tlie  present 
industrial  depression.  Bank  exchanges  at  all  tlie  leading  cities  of 
the  United  States  were  $2,073,910,424  for  the  week  ending  January' 

'  .\daptcd  from  Seasonal  Variations  in  the  Relative  Demand  for  Money  and 
Capital  in  the  United  States,   p.  222.     (National  Monctar>'  Commission,  1910.) 
-Adapted  from  an  editorial  in  }foo(l\'s  .U(;i,'i;;/';;c.  \'  fiooS),  151-54 


I5,S  PRINCIPLES  OF  MONEY  AND  BANKING 

30,  1908,  a  decrease  of  23 . 3  per  cent  compared  with  the  corresponding 
week  of  1907  and  37.2  per  cent  compared  with  the  corresponding 
week  of  1906.  The  decrease  in  New  York  and  Philadelphia  exceeded 
28  per  cent,  compared  with  1906,  and  was  greater  than  in  any  other 
cities. 

For  the  first  two  weeks  of  January,  1908,  gross  earnings  of  rail- 
roads were  about  13  per  cent  less  than  in  1907,  For  the  last  week  in 
December  they  were  15.52  per  cent  below  those  of  1906.  For  the 
entire  month  of  December  gross  earnings  were  i .  13  per  cent,  while 
net  earnings  were  17.46  per  cent  less  than  were  those  for  December, 
1906. 

Transactions  of  the  New  York  Stock  Exchange  amounted  to 
16,634,817  shares,  compared  with  22,712,420  in  January,  1907. 

The  sharp  falling  oflf  in  the  net  earnings  of  the  United  States 
Steel  Corporation  in  the  last  quarter  of  1907  shows  the  remarkable 
decline  in  industr3^  The  net  earnings  fell  from  $17,052,211  in 
October  to  $10,467,253  in  November,  and  to  $5,034,531  in  Decem- 
ber.    This  is  a  decline  of  over  70  per  cent. 

The  unparalleled  number  of  idle  cars  affords  a  barometer  of  our 
industrial  condition.  Today  there  are  approximately  320,000  freight 
cars  and  8,000  locomotives  standing  idle,  representing  an  investment 
of  more  than  $460,000,000,  and  there  are  more  than  30,000  unem- 
ployed trainmen.  And  yet  three  months  ago  there  were  not  enough 
railroad  cars  to  move  the  traffic  of  the  count^}^ 

The  general  state  of  industry  and  trade  is  summarized  by  Brad- 
street's  as  follows:  "It  is  safe  to  say  that  estimates  of  shrinkages 
of  30  to  50  per  cent  in  sales  and  general  turnover  are  not  unreasonable. 
Iron  output  will  probably  be  50  per  cent  below  a  year  ago.  Shoe 
shipments  are  about  30  per  cent  below  January,  1907.  Lumber  and 
all  kinds  of  building  material  are  very  quiet  the  country  over.  Coke 
production,  though  larger  than  in  December,  is  easily  50  per  cent 
below  the  fullest  capacity.  Coal  has  been  helped  by  cold  weather, 
but  is  dull;  stocks  have  accumulated  because  of  past  mild  weather 
or  of  reduced  industrial  consumption,  and  there  is  talk  of  miners  of 
bituminous  coal  being  asked  to  take  lower  wages  as  an  alternative 
to  reducing  production.  There  are  widespread  reports  of  large  num- 
bers of  unemployed  in  all  sections  of  the  country,  and  some  southern 
reports  point  to  a  return  of  idle  city  labor  to  the  farms." 

The  returns  for  the  prices  of  commodities  show  a  probable  decline 
of  about  10  per  cent  in  the  cost  of  living. 


RELATIONS  BETWEEN  BANKS  159 

The  money  market  affords  one  of  the  best  barometers  of  the 
great  change  that  has  come  over  the  industrial  situation.  From  a 
deficit  of  $54,103,600  on  November  23,  in  the  surplus  reserves  of 
the  New  York  Associated  Banks,  there  was  a  surplus  of  $40,626,725 
on  February  i.  From  rates  of  25  per  cent  or  more  last  fall  for  call 
money  we  now  have  rates  of  less  than  2  per  cent.  From  rates  of  from 
7  to  12  per  cent  for  time  money  last  fall  we  now  have  rates  of  from 
4  to  4^  per  cent  on  Stock  Exchange  collateral  and  from  5  to  6  per 
cent  on  commercial  paper.  The  return  of  hoarded  money  and  the 
slackening  demand  for  money  in  industrial  and  commercial  operations 
are  mainly  responsible  for  this  sudden  transformation  of  the  money 
market. 

Already  gold  exports  have  begun  from  this  country.  They  may 
reach  a  considerable  volume  before  next  July.  Money  rates,  however, 
may  be  expected  to  remain  about  as  at  present.  Money  rates  are 
being  followed  by  rising  prices  for  bonds  and  other  secure  securities. 
During  January  the  price  of  bonds  rose  about  twice  as  much  as  the 
price  of  common  stock.  Under  existing  conditions  investors  find 
bonds  very  attractive  in  view  of  the  uncertainty  of  the  situation. 
Many  interior  banks  have  put  their  idle  funds  in  bonds  on  account  of 
the  comparatively  high  interest  return  they  can  secure  by  such 
a  course. 

77.    BANKING  CONDITIONS  DURING  DEPRESSIONS' 
By  WALTER  W.  STEWART 

The  business  conditions  prevailing  during  periods  of  depression 
bring  about  certain  changes  in  the  loans,  the  deposits,  and  the  reserves 
of  banks.  Those  concerns  which  are  borrowers  at  the  banks  find 
that  their  declining  volume  of  business  can  be  financed  with  smaller 
banking  accommodations.  Consequently,  as  accoimts  are  collected 
and  goods  are  sold,  the  funds  are  first  deposited  and  then  used  to  pay 
their  loans  at  the  banks.  This  method  of  payment,  by  which  the 
borrower  gives  back  to  the  bank  the  desposit  account  and  receives 
in  return  his  canceled  note,  results  in  the  reduction  of  deposits  as 
well  as  the  cancellation  of  loans.  Both  the  loans  and  the  deposits, 
therefore,  are  lower  during  the  depression  than  during  the  prosperity. 
In  case  the  banks  have  pursued  a  policy  of  loan  contraction  during 
the  crisis  preceding  the  depression,  then  early  in  the  depression  the 

'  From  an  unpublished  article. 


i6o  PRINCIPLES  OF  MONEY  AND  BANKING 

loans  will  increase.  But  it  is  an  increase  only  as  compared  to  the  low 
point  of  the  crisis,  and  not  as  compared  to  the  period  of  prosperity. 

The  business  conditions  of  depression  are  also  reflected  in  the 
movement  of  bank  reserves  during  the  period,  for  the  decrease  in 
sales  reduces  cash  requirements  as  well  as  credit  requirements.  The 
diminished  volume  of  business  causes  merchants  to  keep  less  till- 
money;  the  increased  unemployment  causes  wage-earners  to  carry 
less  pocket-money;  and  the  depositors  who  withdrew  money  during 
the  crisis  now  redeposit  it.  This  new  distribution  of  money  between 
the  banks  and  the  public  results  in  an  accumulation  of  reserve-money 
during  the  depression. 

Thus  it  comes  about  that  the  cash  held  by  the  banks  is  actually 
increasing  at  the  very  time  that  the  deposits  are  decreasing.  The 
result  is  a  favorable  ratio  between  reserves  and  deposits,  which  in 
part  explains  the  easy  money  market  and  the  low  interest  rates 
characteristic  of  the  depression. 

78.    BANKING  POLICY  IN  PERIODS  OF  EXPANDING  BUSINESS* 
By  O.  M.  W.  SPRAGUE 

At  the  beginning  of  the  ten  years  of  business  activity  which  cul- 
minated in  1907  the  banks  were  in  an  exceedingly  strong  condition, 
as  is  usually  the  case  at  the  end  of  a  long  period  of  depression.  Dur- 
ing the  four  years  following  the  crisis  of  1S93  the  loans,  deposits,  and 
cash  reserves  for  the  banks  fluctuated  within  narrow  Umits,  reflecting 
the  stagnant  condition  of  trade.  On  October  5,  1897,  against  net 
deposits  of  $2,195,000,000,  the  national  banks  held  a  cash  reserve  of 
$388,900,000,  giving  them  the  tolerably  high  ratio  of  17.7  per  cent  to 
deposit  liabilities.  Their  loans  also  must  have  been  of  high  average 
quality  after  four  years  of  thoroughgoing  Uquidation  and  recuperation 
in  the  business  world. 

Beginning  with  the  autumn  of  1897,  the  cash  reserves  of  the  banks 
increased  rapidly.  At  first  the  gain  was  due  to  gold  imports  secured 
through  abnormally  large  grain  exports  to  Europe,  and  afterward 
on  account  of  increasing  gold  production,  of  which  the  United  States 
acquired  a  considerable  share.  A  further  gain  was  secured  indirectly 
as  a  result  of  the  currency  act  of  1900.  As  a  result  of  these  various 
influences,  the  cash  holdings  of  the  national  banks  increased  from 
$388,900,000  on  October  5,  1897,  to  $701,600,000  on  October  22,  1907. 

'  Adapted  from  Crises  under  National  Banking  System,  pp.  216-26.  (National 
Monetary  Commission,  19 10.) 


RELATIONS  BETWEEN  BANKS 


l6l 


With  this  increase  of  nearly  $313,000,000  in  their  cash  reserves 
it  would  have  been  possible  for  the  banks  to  have  nearly  doubled  their 
productive  investments  without  diminishing  the  ratio  of  cash  to 
deposit  liabilities.  As  a  matter  of  fact,  these  investments  were 
increased  far  more  than  this. 

The  following  table  shows  the  changes  in  loans,  net  deposits 
(not  including  government  deposits),  cash  reserves,  and  reserve  ratio 
at  the  time  of  the  early  autumn  return  of  the  condition  of  the  national 
banks  from  1S97  to  1907: 

(Amounts  expressed  in  millions) 


Loans 


Net  Deposits 


Cash  Reserve 


Ratio  to  Net 
Deposits 


Oct.  5,  1897 
Sept.  20,  1898 
Sept.  7,  1899 
Sept.  5,  1900 
Sept.  30,  1901 
Sept.  15,  1902 
Sept.  9,  1903 
Sept.  6,  1904 
Aug.  25,  1905 
Sept.  4,  1Q06, 
Aug.  22,  1907 


$2,066 
2,172 
2,496 
2,686 
3,018 
3,280 
3,481 
3,726 
3,998 
4,298 
4,678 


f2,i79 
2,404 

2,952 
3,187 
3,554 
3,720 
3,863 
4,400 

4,735 
4,927 
5,256 


$388 
420 
466 
S18 
539 
508.0 

554-3 

661. 5 
665.6 
626.0 

701 .6 


Per  Cent 
17.9 

17  5 
15-8 
16.  2 
152 
13-7 
14  3 
150 
14  3 
12.7 

13-3, 


Every  year  witnessed  an  increase  in  loans  (that  for  the  last  jear 
of  the  series  being  the  most  considerable)  and  also  in  deposit  liabilities. 
Cash  reserves  showed  a  gain,  except  in  1902  and  1906,  but  the  reserve 
ratio  was  subject  to  greater  fluctuations.  Between  1897  and  1902 
the  decline  was  continuous,  with  the  exception  of  1900,  when  the 
banks  enjoyed  the  benefit  of  the  change  in  the  requirement  as  to  note 
issue  from  90  per  cent  to  the  full  par  value  of  the  bonds  deposited  as 
security.  By  1902  the  banks  had  evidently  approached  as  near  to 
legal-reserve  requirements  as  they  felt  was  consistent  with  safety, 
and  thereafter  loans  and  deposit  liabilities  were  kept  roughly  within 
limits  determined  by  the  amount  of  cash  holdings.  It  will  be  noted 
that  in  1902  the  banks  were  a  little  above  and  in  1906  somewhat  below 
the  ratio  of  reserve  on  August  22,  1907,  the  date  of  the  last  return 
before  the  crisis.  That  the  banks  were  slightly  stronger  in  cash  in 
1907  than  in  1906  may  be  in  part  due  to  the  earlier  date  of  the  return 
of  1907,  nearly  two  weeks  earlier  than  that  for  the  corresponding 
period  in  1906.     It  is  evident,  however,  that  the  banks  were  at  least 


l62  PRINCIPLES  OF  MONEY  AND  BANKING 

in,  what  was  for  them,  a  quite  normal  condition  of  strength  just 
before  the  beginning  of  the  crisis.  But  this  was  not  on  account  of 
any  exercise  of  restraint  in  making  loans,  since  the  increase  during 
the  previous  twelve  months  was  greater  than  for  any  other  year  of  the 
period  under  review.  Finally,  it  may  be  noted  that  the  proportion 
of  reserve  to  deposit  Habilities  which  had  become  customary  was 
distinctly  less  than  it  was  during  the  years  before  either  the  crisis  of 
1873  or  that  of  1893. 

Analysis  of  the  condition  of  the  banks  by  groups  does  not  give 
different  results  in  the  case  of  the  country  banks  and  those  of  reserve 
cities.  The  net  deposits  of  the  country  banks  increased  without 
interruption  from  $963,000,000  on  October  3,  1897,  to  $2,527,000,000 
on  August  22,  1907.  The  reserve  ratio,  which  was  11. 6  per  cent 
at  the  outset,  declined  rapidly  and  was  constantly  in  the  neighborhood 
of  7.5  per  cent  from  1902  onward;  in  1906  it  was  7.5  per  cent;  in 
1907,  7.6  per  cent.  In  the  reserve  cities  also  deposits  increased 
with  the  exception  of  a  single  year,  1903,  rising  from  $586,000,000  to 
$1,423,000,000.  The  reserve  ratio  was  17.8  per  cent  at  the  outset, 
but  was  in  the  neighborhood  of  125  per  cent  from  1901  onward.  In 
1906  it  was  12. 1  per  cent;  in  1907  it  was  13.4  per  cent. 

The  condition  of  the  banks  in  the  central  reserve  cities  presents 
greater  individual  differences.  In  St.  Louis  deposits  increased  regu- 
larly with  the  exception  of  1900.  The  reserve  ratio  of  the  St.  Louis 
banks  was  below  25  per  cent  even  in  1897  and  was  above  that  point 
in  only  one  year,  1905.  In  1906  it  was  24  per  cent  and  in  1907,  23 . 5 
per  cent.  In  Chicago  deposits  fell  off  somewhat  in  two  years,  1900 
and  1906,  but  increased  from  $105,700,000  in  1897  to  $262,900,000 
in  1907.  Beginning  with  a  high  reserve  ratio  of  36  per  cent  in  1897 
the  Chicago  banks  soon  broke  away  from  the  traditionally  ample 
reserve  which  had  characterized  the  banks  of  the  city.  In  1S99  the 
reserve  was  25.4  per  cent,  in  1902  only  21.9  per  cent,  and  thereafter 
every  autumn  return  showed  a  deficiency  until  1907,  when  the  banks 
held  a  cash  reserve  equal  to  25.3  per  cent  of  their  deposit  habilities. 

The  upward  tendency  of  loans  was  not  so  marked  in  New  York 
as  in  the  case  of  the  banks  in  general.  The  $408,000,000  of  Xew  York 
bank  loans  in  1897  was  nearly  20  per  cent  of  all  the  loans  of  the  national 
banks,  while  the  $712,000,000  of  loans  in  1907  was  just  above  15 
per  cent  of  the  total.  Even  at  the  beginning  of  the  period  the  New 
York  banks  were  able  to  find  borrowers  for  all  they  were  prepared  to 
lend,  and  throughout  the  period  they  were  evidently  handling  their 


RELATIONS  BETWEEN  BANKS  163 

loan  account  so  as  to  keep  just  above  the  25  per  cent  requirement 
against  deposits.  They  did  no  more  than  maintain  the  reserve 
position  which  previous  experience  had  clearly  shown  to  be  inadequate, 
although  the  burden  resting  upon  them  through  the  relati\ely  greater 
expansion  elsewhere  tended  to  increase.  New  York  still  maintained 
its  commanding  position  as  a  debtor  of  national  banks.  There  had 
been  no  marked  change  in  the  proportion  of  deposits  due  to  national 
banks  compared  with  the  total  deposits  of  the  New  York  banks. 
They  were  30  per  cent  of  the  total  in  1897,  nearly  as  much  in  1906, 
and  27  per  cent  in  1907.  The  New  York  banks  were  comparatively 
as  strong  as  in  the  past  and  under  no  greater  relative  obligations  to 
other  national  banks.  They  might,  however,  reasonably  have 
expected  somewhat  greater  withdrawals  in  an  emergency,  because  of 
the  smaller  cash  reserve  ratio  of  all  the  other  banks  in  the  s>'stem, 
though  the  probable  difference  on  this  account  was  not  remarkably 
great. 

During  this  period  there  was  a  startling  increase  in  the  number  of 
state  banks  and  trust  companies,  in  consequence  of  which  the  bank- 
ing situation  as  a  whole  is  greatly  complicated.  On  October  2,  1897, 
the  net  amount  due  from  national  banks  to  state  banks  of  all  kinds 
was  only  $185,600,000;  on  August  22,  1907,  it  was  $646,000,000.  In 
particular,  the  increase  in  the  deposits  of  state  banks  and  trust  com- 
panies held  by  the  New  York  banks  was  most  striking,  and  might 
well  have  been  considered  alarming. 

From  a  little  more  than  one-third  the  aggregate  of  bankers' 
deposits  in  1897  the  deposits  due  state  institutions  had  become  in 
1907  almost  equal  to  those  due  the  national  banks.  The  aggregate 
of  bankers'  deposits  had  also  become  a  slightly  larger  part  of  the  total 
deposits  of  the  New  York  banks,  but  the  real  importance  of  this 
growth  is  due  to  the  fact  that  the  cash  reserves  of  the  state  banks  and 
trust  companies  were  notoriously  inadequate. 

79.    BANKING  POLICY  ESIMEDIATELY  PRECEDING  A  CRISIS* 

By  O.  M.  W.  SPRAGUE 

After  the  San  Francisco  earthquake  on  April  18,  1906,  eighteen 
months  before  the  crisis,  there  were  Indications  in  plenty  that  the  pace 
was  too  rapid  and  that  the  equilibrium  of  economic  forces  was  becom- 
ing increasingly  unstable.     That  catastrophe  destroyed  an  immense 

'  Adapted  from  Crises  under  the  National  Banking  System,  pp.  237-45.  (Na- 
tional Monetary  Coinniission,  1910.) 


i64  i'ki\(:ii'Li;s  of  monkv  and  ijankinc; 

amount  of  capital,  a  loss  whicli,  through  insurance,  was  widely  dis- 
tributed; but  even  if  it  had  not  occurred  it  is  certain  that  demand  for 
additional  capital  was  outstripping  current  savings  seeking  invest- 
ment. Increasing  difficulty  was  experienced  in  marketing  securities 
of  the  very  highest  class.  The  strain  upon  capital  was  world-wide, 
and  in  the  United  States  municipal  bonds  whose  sale  would  have 
been  stimulated  by  distrust  of  business  corjwrations  could  only  be 
marketed  when  offered  at  lower  prices  or  a  higher  rate  of  interest. 

The  inability  to  secure  capital  by  the  sale  of  securities  in  a  period 
of  active  business  should  have  been  enough  in  itself  to  inspire  unusual 
caution  in  the  management  of  banking  institutions.  When  corpo- 
rations of  the  highest  standing  are  obliged  to  resort  to  short-term 
notes  it  may  be  assumed  without  question  that  other  corporations  are 
expanding  upon  an  insufficient  foundation  of  working  capital,  that 
current  obligations  are  increasing,  and  that  bank  credits  are  being 
used  to  their  utmost  extent.  This  probability  might  well  have  been 
recognized  as  a  certainty  when  it  appeared  that  during  the  latter  half 
of  1906  and  the  first  eight  months  of  1907  the  loans  of  the  national 
banks  had  increased  more  rapidly  than  at  any  time  in  the  history 
of  the  system. 

Increasing  tension  in  New  York,  whenever  comparatively  slight 
contraction  in  loans  took  place,  was  another  indication  pointing  to  the 
same  condition  of  affairs.  It  suggested  that  there  were  few  persons 
in  the  community  with  idle  funds  available  to  take  over  either  the 
loans  or  the  collateral  of  borrowers,  and  that,  consequently,  any 
considerable  liquidation  of  loans  would  be  difficult,  and,  if  carried 
through  rapidly,  disastrous. 

Another  indication  of  the  approach  of  a  period  of  declining  activity 
in  trade  was  the  increasing  ratio  of  costs  reported  in  many  industries. 
This  is  probably  one  of  the  most  fundamental  causes  of  industrial 
reaction  and  the  necessity  for  an  occasional  period  of  recuperation. 
During  the  ten  years  before  1907  production  in  many  branches  had 
more  than  doubled;  as,  for  example,  coal,  iron,  and  also  railroad 
traffic.  A  far  more  rapid  increase  in  the  number  employed  in  such 
occupations  was  made  than  was  compatible  with  the  maintenance 
of  industrial  efficiency.  The  incompetent  could  hold  places  because 
there  were  none  to  fill  their  positions,  and  there  was  no  time  to  ac- 
quire skill  by  those  capable  of  acquiring  it. 

As  a  result  of  these  and  other  causes  which  might  be  mentioned 
there  could  be  no  doubt  that  the  United  States,  like  other  countries, 
was  about  to  pass  through  a  period  of  reaction,  though  the  exact 


RELATIONS  BETWEEN  BANKS 


165 


moment  of  its  beginning  could  not  be  foreseen  and  might  largely  be 
determined  by  fortuitous  circumstances.  It  was  so  probable  that 
with  each  month  of  1906  and  1907  the  exercise  of  increasing  caution 
might  well  have  been  expected  in  all  responsible  circles. 

Little  heed  seems  to  have  been  given  to  these  warning  signs,  but 
much  was  made  of  every  straw  which  suggested  a  possililc  further 
advance.  On  July  31,  1906,  dividends  were  resumed  on  the  common 
stock  of  the  United  States  Steel  Corporation,  and  on  August  18  the 
Union  Pacific  dividend  was  advanced  from  6  to  10  per  cent,  and 
dividends  were  begun  at  the  rate  of  5  per  cent  on  the  shares  of  the 
Southern  Pacific  Railroad.  Events  seem  to  have  proved  conclusively 
the  ability  of  these  companies  to  earn  the  dividends  which  were 
then  declared,  but  nevertheless,  coming  when  it  did,  this  action 
exercised  an  unfortunate  general  influence.  It  gave  encouragement 
to  the  unbridled  optimism  which  was  already  too  much  in  evidence. 
It  was  preceded  and  followed  by  a  speculative  movement  on  the 
stock  exchange,  which  was  made  possible  through  credits  granted 
by  the  banks  upon  the  foundation  of  the  usual  summer  inflow  of 
funds  from  the  interior. 

Despite  the  numerous  evidences  of  danger  during  the  earl}- 
autumn  of  1906  and  the  "rich  men's  panic"  of  March,  1907,  when  the 
severest  declines  occurred  that  have  been  known  to  the  New  York 
Stock  Exchange,  the  banks  of  New  York  made  no  real  preparation 
for  the  crisis  that  was  obviously  due.  They  were  in  slightly  better 
shape  in  August,  however,  than  they  were  a  year  earlier.  The 
following  table  shows  the  situation: 

(Expressed  in  millions) 


1907 

igo6 

August  24 

October  19 

August  33 

October  10 

Loans 

$i,oSS.o 

1,048.0 

272.0 

9  9 

$1,076.0 

1,025.0 

267.0 

II. 2 

$1,071 .0 

1.053  0 

267.0 

4-2 

$1,082.0 

Deposits 

1,062.0 

Reserve 

271 .0 

Surplus  reserve 

6.2 

80.    A  SAMPLE  FOREBODING' 
By  ELLIOT  C.  McDOUGAL 

Until  very  recently  no  one  admitted  lluit  his  judgment  dictated 
any   policy    of    retrenchment.     Gentlemen,    we    cannot    hold    the 

'  Adapted  from  an  address  before  the  New  York  State  Bankers'  Association, 
June  27,  1907.    Quoted  in  Bankers'  Magazine,  LXXV,  No.  I  (1907),  1-3. 


l66  PRINCIPLES  OF  MONEY  AND  BANKING 

present  pace.  We  should  not  hold  it,  even  if  we  could.  Though  our 
depositors  do  not  realize  this,  our  unpleasant  but  perfectly  plain 
duty  is  to  curtail  their  accommodation  lines  and  force  retrenchment. 
We  are  in  an  era  of  extravagance,  both  corporate  and  individual,  of 
extravagance  in  enterprise  and  of  extravagance  in  expenditure; 
extravagance  as  much  beyond  precedent  as  is  our  feverish  business 
activity.  No  matter  what  this  country's  book-profits  are,  it  cannot 
accumulate  capital  without  thrift,  and  today  thrift  appears  to  be 
forgotten.  At  least  a  moderate  amount  of  what  is  popularly  known 
as  "hard  times"  is  the  only  cure. 

Expansion  is  not  confined  to  the  industrial  and  commercial  world. 
For  years  banking  facilities  have  been  expanding  out  of  all  proportion 
to  the  growth  of  cash  reserves.  For  several  years  there  has  not  been 
a  week  in  which  all  the  New  York  Clearing-House  banks  have  held 
full  reserves,  and  frequently  half,  or  nearly  half,  have  been  short. 
The  same  tendency  prevails  throughout  the  country.  Is  it  not  time 
for  bankers  to  check  this  undue  expansion,  to  prune,  this  tree  too 
luxuriant  for  its  roots,  this  fabric  of  credit  built  on  an  inadequate 
foundation  of  reserve?  Consider  that  our  reserves  consist  largely 
of  balances  due  from  other  banks.  The  system  of  reserve  agents, 
both  in  our  state  and  national  banking  systems,  with  which  you  are 
all  familiar,  the  abolition  of  which  would  be  opposed  by  most  if  not 
by  all  the  bankers  in  this  room,  contains  possibilities  of  serious  trouble; 
nay  more,  invites  serious  trouble. 

For  instance,  a  state  bank  near  Buffalo  receives  a  deposit  of 
$10,000,  which  it  redeposits  with  a  trust  company  in  Buffalo.  The 
latter  redeposits  the  amount  with  its  reserve  agent,  a  state  bank  in 
Buffalo;  the  state  bank  redeposits  the  amount  with  its  reserve  agent, 
a  correspondent  in  Albany,  and  the  Albany  bank  redeposits  the 
amount  with  its  reserve  agent,  a  correspondent  in  New  York  City. 
Here  is  one  $10,000  deposit,  multiplied  by  five  swelling  discounts  in 
this  state  by  $50,000,  and  swelling  so-called  reserve  by  $42,500, 
against  which  the  only  cash  reserve  held  is  that  of  the  New  York 
bank,  amounting  to  $2,500. 

Is  not  tliis  inflation?  This  is  no  imaginary  case.  Of  course, 
each  bank  is  supposed  to  keep  a  very  small  part  of  each  deposit  in 
reserve,  in  cash,  but  it  frequently  happens  that  each  bank  in  the 
chain  has  a  little  surplus  cash  reserve,  and  that  the  operation  is 
exactly  as  stated. 

Now,  what  happens  ?  The  country  depositor  draws  on  his  bank 
for  $10,000,  the  country  bank  on  the  trust  company,  the  trust  com- 


RELATIONS  BETWEEN  BANKS  167 

pany  on  the  Buffalo  bank,  the  Buffalo  bank  on  the  Albany  bank,  and 
the  Albany  bank  on  the  New  York  bank.  Deposits  shrink  $50,000; 
$42,500  of  reserve  vanishes. 

Thousands  of  such  operations  occur  daily,  the  countless  rami- 
fications of  which  are  so  interlaced  that  their  effects  are  widely  felt. 
In  ordinary  times  these  operations  pass  witliout  notice.  When  our 
next  financial  disaster  comes  they  will  cause  widespread  disturbance 
and  promote  panic.  We  should  remember  that  most  of  the  reserve 
cities  in  the  national  system  have  sprung  up  in  recent  years,  and 
were  not  in  existence  during  the  panic  of  1893.  The  system  has  not 
stood  the  test  of  a  financial  crisis.  I  know  that  country  bankers 
desire  interest  on  their  reserve  accounts,  and  that  banks  in  reserve 
cities  desire  such  accounts.  Nevertheless,  I  advocate  that  whatever 
reserve  may  be  required  by  law,  that  reserve  shall  be  in  cash  in  each 
bank's  own  vaults,  and  that  the  present  system  of  reserve  deposi- 
taries, both  state  and  national,  be  abolished  as  most  unsound  and 
dangerous. 

81.    INDEPENDENT  BANKING  THE  CAUSE  OF  INFLATION 
By  victor  MORAWETZ 

The  managers  of  each  bank  have  the  power  to  regulate  the  amount 
of  its  loans  and  discounts  and  the  expansion  of  its  deposit  liabilities 
in  relation  to  reserves,  having  regard  to  the  condition  of  the  particular 
bank  which  they  control;  but  in  the  United  States  bank  managers 
have  no  power  to  regulate  the  ex-pansion  of  credits  of  all  the  banks 
with  a  view  to  the  security  of  the  general  credit  situation,  and  have 
no  power,  through  the  issue  and  redemption  of  bank  notes,  to  pre- 
vent sudden  and  wide  fluctuations  in  the  credit  power  of  the  banks 
resulting  from  the  fluctuations  of  the  volume  of  currency  used  as 
a  circulating  medium.  Though  the  managers  of  fifty,  or  of  a  hundred, 
out  of  the  seven  thousand  national  banks  may  be  of  the  opinion  that, 
having  regard  to  existing  or  prospective  conditions,  the  exi")ansion  of 
credits  has  gone  too  far,  they  have  no  power  to  accomplish  any  sub- 
stantial result.  They  could  restrict  the  grant  of  credits  by  their  own 
banks,  and  so  lose  profitable  business  that  would  go  to  other  banks,  but 
they  could  not  materiatt>'  improve  the  general  situation.  This  was  the 
case  prior  to  the  recent  panic.  For  months  before  the  panic  many 
intelligent  managers  of  banks  and  trust  companies  knew  that  the 

'  Adapted  from  The  Banking  and  Currency  Problem  in  the  United  States, 
pp.  36-42.     (North  American  Review  Publishing  Co..  1909.) 


l68  PRINCIPLES  OF  MONEY  AND  BANKING 

credit  situation  throughout  the  country  had  become  strained,  and 
accordingly,  by  restricting  credits  and  by  making  call  loans  instead 
of  time  loans,  many  of  them  endeavored  to  strengthen  their  own 
institutions,  but  they  could  do  little  for  the  protection  of  the  general 
credit  situation. 

The  point  to  which  bank  credits  throughout  the  country  may  be 
expanded  with  safety  depends  upon  many  circumstances  and  varies 
from  time  to  time.  A  ratio  of  reserves  to  liabilities  may  be  perfectly 
safe  under  certain  conditions  and  quite  unsafe  under  other  conditions. 
It  is  a  fatal  mistake  to  assume  that  bank  credits  always  can  be 
expanded  with  safety  to  the  maximum  allowed  by  the  reserve  require- 
ments of  the  National  Bank  Act.  Recent  experience  has  shown  that 
though  the  minimum  reserves  required  under  the  National  Bank  Act 
are  sufficient  in  ordinary  times,  they  are  not  sufficient  at  all  times, 
and  that  credits  may  be  expanded  beyond  the  limit  of  safety  although 
the  legal  ratio  of  reserves  to  Habilities  be  maintained.  It  is 
not  sufficient  to  consider  merely  the  rate  of  interest  in  Wall  Street. 
It  is  not  sufficient  to  consider  the  rate  of  interest  and  financial  condi- 
tions throughout  the  United  States.  It  is  necessary  to  consider  the 
whole  world.  The  financial  and  commercial  relations  between  the 
leading  countries  of  the  world  are  so  close  that  any  shock  affecting 
financial  conditions  in  one  country  would  be  felt  by  them  all.  A 
great  war,  or  a  financial  crash  in  any  country,  would  affect  fioiancial 
conditions  throughout  the  whole  civilized  world. 

It  is  necessary  to  consider,  also,  the  prospective  expansion  of 
business  and  the  prospective  demand  for  credits  and  currency  through- 
out the  world.  Furtliermore,  allowance  must  be  made  for  events 
that  cannot  be  foreseen.  There  are  times  when  exceptional  condi- 
tions render  necessary  an  exceptional  expansion  of  bank  credits  or  of 
the  currency  as  a  temporary  measure  of  relief,  as,  for  example,  when 
a  panic  is  threatened  by  reason  of  the  sudden  withdrawal  of  currency 
in  unusual  amounts  to  be  hoarded  by  depositors  who  have  lost  confi- 
dence in  the  banks.  In  such  case,  however,  safety  requires  that, 
as  soon  as  the  immediate  need  of  the  extraordinary  expansion  shall 
have  been  removed,  bank  credits  and  the  currency  shall  again  be 
contracted  to  a  normal  limit. 

There  are  in  the  United  States  approximately  seven  thousand 
national  banks,  besides  more  than  twice  as  many  state  banks  and 
trust  companies.  Each  of  these  institutions  acts  for  its  individual 
interest  alone,  independently  of  the  others,  and  the  prevailing  tend- 


RELATIONS  BETWEEN  BANKS  169 

ency  of  each  at  all  times  is  to  expand  its  credits  to  the  limit  permitted 
by  law.  The  country  banks  lend  their  surplus  resources  in  the  form 
of  deposits  at  mterest  to  the  banks  in  the  larger  cities,  and  the  banks 
in  the  principal  money  centers  commonly  expand  their  credits  as 
much  as  practicable  by  lending  on  call  such  sums  as  they  deem  it 
unsafe  to  lend  on  time  or  by  discount  of  commercial  paper.  Each 
bank  with  a  deposit  in  another  bank  assumes  that,  in  case  of  need,  it 
can  strengthen  its  reserve  by  drawing  upon  this  deposit;  but  it  fails 
to  consider  that,  when  thus  it  strengthens  its  own  reserve,  it  must  to 
the  same  extent  weaken  the  reserve  of  the  other  bank,  and  that  the 
deposits  of  banks  with  other  banks  add  no  strength  to  the  general 
credit  situation.  Each  bank  that  has  loaned  money  on  call  assumes 
that,  in  case  of  need,  it  can  strengthen  its  reserve  by  calling  such  loans; 
but  it  fails  to  consider  that,  generally,  when  a  loan  is  called  the 
borrower  is  obliged  to  borrow  the  same  sum  from  some  other  bank, 
although  a  high  rate  of  interest  may  be  exacted,  and,  therefore,  that 
call  loans  affect  the  security  of  the  entire  bank  situation  practically 
to  the  same  extent  as  time  loans. 

In  the  United  States  there  is  no  way  of  regulating  the  supply  of 
bank  credits  and  of  holding  part  of  the  potential  supply  in  reserve 
for  periods  of  financial  stringency.  Consequently,  nearly  always 
there  is  either  an  overabundance  of  money  (meaning  credit  which  the 
banks  are  ready  to  lend)  or  a  money  famine.  It  has  been  argued 
that  the  volume  of  credits  granted  by  the  banks  depends  upon  busi- 
ness activity  and  upon  the  consequent  demand  for  credit  and  not 
upon  the  power  of  the  banks  to  grant  credits,  and,  therefore,  that  the 
willingness  of  the  banks  to  make  loans  at  very  low  interest  rates  has 
little  effect  in  causing  an  expansion  of  bank  credits.  Experience 
shows,  however,  that  the  contrary  is  the  case,  at  least  in  the  United 
States.  .It  is  true  that  when  there  is  loss  of  confidence  and  wiien 
business  is  depressed  interest  rates  are  low,  because  there  is  less 
currency  in  circulation  and  more  in  the  bank  reserves,  while  at  the 
same  time  the  demand  for  bank  credits  is  diminished.  It  is  true, 
also,  that  the  willingness  of  the  banks  to  make  loans  at  low  interest 
rates  will  not  stimulate  speculation  and  enterprise  unless  people  have 
confidence  and  are  ready  to  speculate  and  embark  in  new  enteri)riscs. 
But  we  know  by  experience  that  when  people  are  in  a  mood  for 
speculation  and  for  business  expansion  low  interest  rates  operate  as 
a  powerful  stimulus  to  speculation  and  business  expansion.  .A  leading 
banker  has  said:   "In  the  long  run  commerce  suffers  more  from  the 


I70  PRINCIPLES  OF  MONEY  AND  BANKING 

periods  of  overalnnidaiicc  [of  money]  than  from  those  of  scarcity. 
The  origin  of  each  recurring  period  of  tight  money  can  be  traced 
to  preceding  periods  of  easy  money.  Whenever  money  becomes  so 
overabundant  that  bankers,  in  order  to  keep  it  earning  something, 
have  to  force  it  out  at  a])normally  low  rates  of  interest,  the  founda- 
tions are  laid  for  a  period  of  stringency  in  the  not  far  distant  future, 
for  then  speculation  is  encouraged,  prices  are  inflated,  and  all  sorts 
of  securities  are  floated  until  the  money  market  is  glutted  with 
them." 

82.    THE  CHARACTER  OF  THE  PANIC  OF  1893' 
By  ALEXANDER  D.  NOYES 

The  panic  of  1893,  in  its  outbreak  and  in  its  culmination,  followed 
the  several  successive  steps  familiar  to  all  such  episodes.  One  or 
two  powerful  corporations,  which  had  been  leading  in  the  general 
plunge  into  debt,  gave  the  first  signals  of  distress.  On  February  20 
the  Philadelphia  and  Reading  Railway  Company,  with  a  capital  of 
$40,000,000  and  a  debt  of  more  than  $125,000,000,  went  into  bank- 
ruptcy; on  the  5th  of  May  the  National  Cordage  Company,  with 
twenty  millions  capital  and  ten  millions  liabilities,  followed  suit. 
The  management  of  both  these  enterprises  had  been  marked  by  the 
rashest  sort  of  speculation;  both  had  been  favorites  on  the  specu- 
lative markets.  The  Cordage  Company  in  particular  had  kept  in  the 
race  for  debt  up  to  the  moment  of  its  ruin.  In  every  month  of  the 
company's  insolvency  its  directors  declared  a  heavy  cash  dividend, 
paid,  as  may  be  supposed,  out  of  its  capital.  In  January,  National 
Cordage  stock  had  advanced  12  per  cent  on  the  New  York  market, 
selling  at  147.  Sixteen  weeks  later  it  fell  below  ten  dollars  per 
share,  and  with  it,  during  the  opening  week  of  May,  the  whole  stock 
market  collapsed.  The  bubble  of  inflated  credit  being  punctured, 
a  general  movement  of  liquidation  started.  This  movement  immedi- 
ately developed  very  serious  symptoms. 

Panic  is  in  its  nature  unreasoning;  therefore,  although  the 
financial  fright  of  1893  arose  from  fear  of  depreciation  of  the  legal 
tenders,  the  first  act  of  frightened  bank  depositors  was  to  withdraw 
these  very  legal  tenders  from  their  banks.  Experience  has  taught 
depositors  that  in  a  general  collapse  of  credit  the  banks  would  prob- 
ably be  the  first  marks  of  disaster.    Instinct  led  them  to  get  their 

'  Adapted  from  Forty  Years  of  American  Finance,  pp.  188-93.  (G.  P.  Put- 
nam's Sons,  1909.) 


RELATIONS  BETWEEN  BANKS  171 

money  out  of  the  banks  and  into  their  own  possession  with  the  least 
possible  delay;  therefore  when  the  depositors  of  interior  banks 
demanded  cash,  and  such  banks  had  as  immediate  reserve  a  cash 
fund  amounting  to  only  6  per  cent  of  their  deposits,  it  followed  that 
the  eastern  "reserve  agents"  were  drawn  upon  in  enormous  sums. 

On  the  New  York  banks  the  strain  was  particularly  violent. 
During  the  month  of  June  the  cash  reserves  of  banks  in  that  city 
decreased  nearly  twenty  millions;  during  July  they  fell  off  twent>-- 
one  millions  more.  The  deposits  entrusted  to  them  by  interior  insti- 
tutions had  been  loaned,  according  to  the  banking  practice,  in  the 
eastern  market;  their  sudden  recall  in  quantity  forced  the  eastern 
banks  to  contract  their  loans  immediately.  But  in  a  market  already 
struggling  to  sustain  itself  from  wreck,  such  wholesale  impairment  of 
resources  was  a  disastrous  blow.  In  the  closing  days  of  June  the 
New  York  money  rate  on  call  advanced  to  74  per  cent,  time  loans 
being  wholly  unobtainable.  The  early  withdrawals  by  depositors  in 
the  country  banks  were  only  a  slight  indication  of  what  was  to  follow. 
In  July  this  western  panic  had  reached  a  stage  which  seemed  to 
foreshadow  general  bankruptcy.  Two  classes  of  interior  institutions 
went  down  immediately — the  weaker  savings  banks  and  private 
banks,  distributed  in  various  provincial  towns,  which  had  fostered 
speculation  through  the  use  of  their  combined  deposits  by  the  men 
who  controlled  them  all. 

In  not  a  few  instances  country  banks  were  forced  to  suspend  at 
a  moment  when  their  own  cash  reserves  were  on  their  way  to  them 
from  depository  centers.  Out  of  the  total  of  158  national  bank  fail- 
ures of  the  year,  153  were  in  the  West  and  South.  How  widespread 
the  destruction  was  among  other  interior  banking  institutions  may 
be  judged  from  the  fact  that  the  season's  record  of  suspension  com- 
prised 172  state  banks,  177  private  banks,  47  savings  banks,  13  loan 
and  trust  companies,  and  16  mortgage  companies. 

During  the  month  of  July,  in  the  face  of  their  own  distress,  the 
New  York  banks  were  shipping  every  week  as  much  as  $11,000,000 
cash  to  these  western  institutions.  Ordinarily,  such  an  enormous 
drain  would  have  found  comjjensation  in  import  of  foreign  gold,  and, 
in  fact,  sterling  exchange  declined  far  below  the  normal  gold  import 
point.  But  the  blockade  of  credit  was  so  complete  that  oj)erations 
in  exchange,  even  for  the  import  of  foreign  specie,  were  impracticable. 
Banks  with  impaired  reserves  would  not  lend  even  on  tlie  collateral 
of  drafts  on  London. 


172  PRINCII'LKS  OF  MONKY  7\NIJ  IJANKINC; 

83.     EVENTS  IN  THE  PANIC  OF  1907' 
By  RALPH  SCOTT  HARRIS 

In  July,  1907,  it  was  felt  in  every  circle  that  business  trembled 
on  the  edge  of  an  abyss.  A  continued  money  stringency  forced 
Secretary  Cortelyou  in  August  to  make  deposits  in  banks  and  accej)t 
as  security  state,  municipal,  and  railway  bonds.  Beginning  in 
September  there  was  a  tone  of  ill-concealed  fright  among  the  most 
hopeful.  Only  the  financial  papers  attempted  to  coax  themselves 
back  into  the  old  confidence.  During  the  second  week  in  October 
call  loans  in  New  York  ranged  from  2^  to  6  per  cent;  time  loans  from 
6  to  7  per  cent;  commercial  paper  from  7  to  7^  per  cent.  In  these 
two  weeks  there  were  twice  as  many  failures  as  in  the  same  period  of 
1906.  There  were  five  times  as  many  manufacturing  failures  in 
September,  1907,  as  in  September,  1906. 

A  series  of  bank  failures  precipitated  the  spectacular  part  of  the 
crisis.  The  first  intimation  of  upheaval  was  the  failure  of  the  Stock 
Exchange  firm  of  which  Otto  C.  Heinze  was  the  head.  The  suspen- 
sion was  due  to  a  failure  to  corner  the  copper  market.  There  was 
a  well-defined  suspicion  that  F.  Augustus  Heinze,  president  of  the 
Mercantile  National  Bank,  was  interested  in  his  brother's  ventures 
and  that  the  bank  was  being  "used"  in  this  connection.  He  and  his 
supposed  allies  fell  into  public  distrust.  Seven  banks  and  a  trust 
company,  with  capital  of  $21,000,000  and  deposits  of  $71,000,000,  were 
dominated  by  these  interests.  Believing  them  able  to  weather  the 
storm,  the  Clearing-House  Association  agreed  to  help  them  out  if 
Heinze  and  his  associates  were  eliminated.  This  was  done.  A  few 
days  later,  however,  the  National  Bank  of  Commerce  refused  to  clear 
any  longer  for  the  Knickerbocker  Trust  Company,  whose  president 
was  thought  to  be  allied  with  the  suspected  interests.  The  result 
was  a  run  on  the  Knickerbocker  Trust  Company,  which,  after  paying 
out  $8,000,000  in  three  hours,  closed  its  doors.  Runs  followed  on  the 
Lincoln  Trust  Company  and  on  the  Trust  Company  of  North  America. 
Following  several  conspicuous  commercial  failures  other  banks  in 
New  York  closed  for  safety's  sake. 

Meanwhile  the  money  scramble  began.  Banks  were  forced 
to  try  to  call  loans  to  be  prepared  for  the  demand  of  banks  and 
individual  depositors.  The  Secretary  of  the  Treasury  deposited 
$35,000,000  in  national  banks  in  New  York  in  four  days. 

'Adapted  horn  Practical  Banking,  pp.  250-57.  (Copyright  bj'  the  author. 
Published  by  Houghton  Mifflin  Co.,  1915.) 


RELATIONS  BETWEEN  BANKS 


173 


Stock  Exchange  prices  collapsed.  A  syndicate,  headed  by  the 
late  J.  P.  Morgan,  stated  that  it  would  stand  under  the  market,  and 
placed  $25,000,000  on  call  at  10  per  cent;  later  $10,000,000  was  made 
available  at  50  per  cent,  the  high  price  being  iLxed  to  discourage 
speculation.  Soon  the  banks  began  to  restrict  cash  payments; 
clearing-house  loan  certificates  were  issued.  The  demand  for  cash 
started  a  premium  on  currency  the  next  week  which  continued  the 
rest  of  the  year.  It  offered  an  incentive  for  withdrawal  of  deposits. 
Large  failures  occurred  as  the  result  of  the  money  stringency.  On 
November  9  arrived  the  first  large  shipment  of  more  than  $100,000,000 
in  gold,  imported  to  relieve  the  money  stringency.  The  banks  had 
already  increased  their  circulating  notes  at  this  time. 

But  in  the  meantime  the  panic  had  seized  the  interior.  Banks  in 
most  of  the  cities  over  25,000  suspended  cash  payments.  The 
clearing-houses  stood  guaranty  on  certificates.  It  is  estimated  that 
over  $500,000,000  of  substitute  paper  was  issued.  The  country 
banks,  having  no  clearing-house  affiliations,  suffered  most.  ]Many 
failures  occurred  among  them. 

Shipments  of  money  to  the  West  were  made  from  New  York. 
These  varied  from  $4,400,000  for  the  week  ending  October  19  to 
$22,600,000  for  the  week  ending  November  16.  In  the  week  ending 
January  4  the  tide  turned  and  $5,500,000  was  shipped  to  New  York. 
The  New  York  banks  supplied  the  country-  with  $125,000,000  between 
the  beginning  of  the  panic  and  the  first  of  1908.  Still  the  reserves  of 
the  clearing-house  banks  were  not  seriously  depleted,  the  importation 
of  gold  and  the  federal  deposits  having  almost  offset  the  loss  of  cash. 

Perhaps  the  panic  could  have  been  localized  had  New  York  bank- 
ers been  able  to  meet  all  demands  without  restriction.  But  restriction 
inspired  country  banks  with  a  zeal  to  provide  for  any  disaster. 
Hoarding  followed.  In  December  most  country  banks  had  higher 
reserves  than  at  the  beginning  of  the  panic.  The  question  which 
each  country'  banker  asked  himself  was,  Can  I  afford  to  be  less  cautious 
than  other  bankers  when  I  know  the  psychology  of  ''panics"  and 
"runs"? 

84.    THE  HOARDING  OF  CURRENCY  IN  1893' 
By  J.  DkWI TT  WARNKR 

Then  developed  the  feature  that  will  forever  characterize  the 
stringency  of  1893:  instructive  to  those  who  have  not  already 
learned  how  immaterial  is  an}-  ordinary  supply  of  legal  currency  when 

'Adapted  from  Sound  Currency,  III  (1896),  p.  240. 


174  PRINCIPLES  OF  MONEY  AND  BANKING 

compared  with  credit  in  its  various  forms — the  real  currency  of  the 
country.  Almost  between  morning  and  night  the  scramble  for 
currency  had  begun  and  culminated  all  over  the  country,  and  the 
preposterous  bulk  of  our  circulating  medium  had  been  swallowed  up 
as  effectually  as,  in  a  scarcely  less  brief  period,  gold  and  silver  had 
disappeared  before  the  premium  on  specie  a  generation  before. 
Currency  was  hoarded  until  it  became  so  scarce  that  it  had  to  be 
bought  as  merchandise  at  a  premium  of  i  to  3  per  cent  in  checks 
payable  through  the  clearing-house;  and  to  enable  their  families 
to  meet  petty  bills  at  the  summer  resorts  the  merchants  and  pro- 
fessional men  of  the  cities  were  forced  to  purchase  and  send  express 
packages  of  bills  or  coin,  while  savings  banks  hawked  their  govern- 
ment bond  investments  about  the  money  centers  in  a  vain  attempt  to 
secure  currency. 

85.    THE  STRAIN  UPON  NEW  YORK  IN  TIME  OF  PANIC^ 
By  O.  M.  W.  SPRAGUE 

The  strain  upon  New  York  banks  in  emergencies  is  not  limited  to 
the  withdrawals  of  balances  by  outside  banks.  Like  the  central 
money  markets  of  other  countries,  New  York  is  the  cheapest  market 
for  loans  in  the  United  States,  and  is  consequently  resorted  to  by 
large  borrowers  from  all  sections.  For  this  reason  and  on  account  of 
stock  exchange  and  other  financial  deaUngs  the  demand  for  loans 
there  is  indefinitely  large  and  attracts  the  surplus  funds  of  the  banks 
of  the  entire  country.  Loans  of  outside  banks  in  New  York  are  apt 
to  be  particularly  large  during  those  periods  of  months  or  even  years 
when  conditions  are  ripening  for  a  crisis,  because  at  such  times  the 
rates  for  loans  in  money  centers  always  reach  abnormally  high  levels. 
When  a  crisis  does  come,  calls  from  the  outside  banks  for  the  liqui- 
dation of  their  loans  and  the  shipment  of  the  currency  received  in 
payment  are  invariably  even  more  in  evidence  than  the  drawing 
down  of  balances.  The  effects  are  far  more  disturbing,  because  of  the 
shifting  of  loans  which  is  involved. 

There  has  been  no  crisis  since  the  estabhshment  of  the  national 
banking  system  in  which  the  New  York  banks  would  have  been  at 
all  likely  to  have  resorted  to  suspension  had  their  difficulties  been 
confined  to  those  of  purely  local  origin.     In  1873  the  situation  in 

'  Adapted  from  "Proposals  for  Strengthening  the  National  Banking  System," 
Quarterly  Journal  of  Economics,  XXIV,  1909-10,  pp.  221-22. 


RELATIONS  BETWEEN  BANKS  175 

New  York  was  so  far  improved  at  the  time  the  banks  restricted  pay- 
ments that  the  necessity  for  it  was  generally  questioned.  It  was 
subsequently  explained  in  a  clearing-house  committee  report  that 
the  measure  was  taken  on  account  of  the  threatened  exhaustion  of  the 
cash  reserves  of  the  banks  in  response  to  the  demands  of  the  interior 
banks  for  the  return  of  their  deposits.  In  1893  there  was  nothing 
in  the  nature  of  a  panic  in  New  York  itself  when  this  discreditable 
step  was  again  taken.  The  banks  succumbed  to  the  prolonged  drain 
of  money  to  the  West  and  Southwest,  where  numerous  bank  failures 
had  generally  weakened  public  confidence.  Again,  in  the  crisis  of 
1907,  at  the  end  of  the  week  in  which  the  troubles  of  the  New 
York  trust  companies  became  known,  the  local  situation  was  showing 
such  decided  evidence  of  improvement  that  but  for  the  increased 
demands  of  the  outside  banks  it  is  certain  that  cash  payments  would 
have  been  maintained. 

86.    SUSPENSION  OF  SPECIE  PAYMENTS* 
By  O.  M.  W.  SPRAGUE 

If  the  banks  of  the  money  centers  refuse  or  even  delay  the  ship- 
ment of  funds  deposited  with  them,  the  thousands  of  country  banks 
will  inevitably  discontinue  remittances  upon  items  sent  to  them  for 
collection.  But  is  the  reverse  equally  inevitable?  If  the  initiative 
is  taken  by  the  country  banks,  is  that  sufficient  reason  for  the  dis- 
continuance or  restriction  of  the  shipments  of  money  to  tlie  interior  by 
the  banks  of  the  money  centers  ?  No,  because  the  banks  in  the  money 
centers  reap  great  advantages  from  their  position  as  clearing  centers 
and  as  reserve  agents.  They  incur  a  responsibility  for  maintaining 
the  credit  situation  which  does  not  rest  upon  the  other  banks. 

Finally,  what  has  been  said  of  money  centers  generally  in  re- 
lation to  the  country  banks  applies  with  even  less  qualification  to 
the  responsibilities  of  the  New  York  banks,  to  the  banks  of  other 
money  centers,  and,  indeed,  to  the  banks  of  the  entire  country  ? 
There  is  always  a  chance  that  the  New  York  banks,  by  meeting  ever>' 
demand  upon  them  for  cash,  may  be  able  to  re-establish  the  ordinar>' 
course  of  payments  between  banks  in  different  parts  of  the  country, 
while  nothing  tliat  the  country  banks  and  those  of  the  secondary 
money  centers  may  do  can  possibly  bring  this  about.  It  follows, 
therefore,  that  even  though  in  1873,  or  on  later  occasions,  some  of 

'Adapted  from  History  of  Crises  under  the  Nalional  Banking  System,  pp.  61- 
69.     (National  Monetary  Commission,  19 10.) 


176  I'RINCII'LKS  OF  MONEY  AND  BANKING 

the  banks  outside  New  York  may  have  restricted  payments  before 
the  suspension  in  New  York,  the  general  dislocation  of  the  domestic 
exchanges  is  i)roperly  to  be  attril)uted  to  the  banks  of  that  city. 
A  danger,  therefore,  which  had  been  merely  threatening  became 
a  reality  at  the  moment  the  action  of  the  clearing-house  banks  on 
Wednesday,  September  24,  became  generally  known.  Similar  steps 
were  immediately  taken  in  most  of  the  secondary  centers.  In 
Boston,  Philadelphia,  Baltimore,  Washington,  New  Orleans,  Cin- 
cinnati, and  St.  Louis  the  issue  of  clearing-house  loan  certificates, 
and  at  the  same  time  the  use  of  certified  checks,  payable  through  the 
clearing-house,  were  sanctioned.  While  the  use  of  loan  certificates 
does  not  necessarily  involve  suspension,  the  fact  that  both  measures 
were  taken  together  in  many  places  not  unnaturally  gave  rise  to  the 
erroneous  impression  that  suspension  is  an  inevitable  consequence 
of  the  issue  of  loan  certificates.  Moreover,  in  many  cities,  Chicago 
being  the  most  important,  as  well  as  by  the  country  banks  generally, 
suspension  of  cash  payments  was  quite  as  complete,  even  though  they 
did  not  resort  to  the  loan  certificate. 

When  once  the  banks  had  resorted  to  suspension,  various  causes 
of  disturbance,  till  then  of  minor  importance,  became  serious.  The 
amount  of  actual  money  required  for  a  given  volume  of  transactions 
was  greatly  increased.  Uncertain  whether  the  banks  would  provide 
the  money  which  they  might  shortly  need,  many  persons  began  to 
discontinue  paying  into  the  banks  cash  received  in  the  course  of  their 
daily  business.  On  September  30,  for  example,  one  of  the  Boston 
banks  reported  that  many  of  their  customers  were  depositing  their 
currency  in  their  own  safes.  The  currency  premium  also  tended  to 
keep  money  from  finding  its  way  into  banks.  The  premium  on 
currency  in  terms  of  certified  checks  began  in  1907  on  October  31 
at  2  (low)  and  3  (high)  per  cent,  and  continued  almost  without  inter- 
ruption until  December  31.  The  highest  premium  recorded  was  4 
per  cent,  on  December  6,  12,  and  13.  Many  retail  shops  in  New 
York,  it  was  said,  sold  to  brokers  their  receipts  in  currency.  Positive 
hoarding  also  seems  to  be  increased  by  suspension,  even  though  some 
money  is  brought  into  use  by  the  possibility  of  realizing  a  profit  from 
its  sale  at  a  premium.  In  1873  at  any  rate  the  amount  of  money  thus 
brought  to  light  was  unquestionably  more  than  offset  by  the  amounts 
which  were  locked  up  in  savings  banks.  In  New  York  alone  the 
savings  banks  were  estimated  to  have  held  from  $13,000,000  to 
$20,000,000,  and   they  were  severely  criticized  for  withholding  this 


RELATIONS  BETWEEN  BANKS  177 

money  from  the  channels  of  trade.  Such  criticisms  would  have  been 
well  founded  if  the  commercial  banks  had  not  resorted  to  suspension. 
The  savings  banks,  having  reciuired  thirty  days'  notice  from  dejjosi- 
tors,  were  properly  justified  in  holding  themselves  ready  to  meet  the 
demands  of  those  depositors  who  had  already  given  notice. 

87.    THE  NEW  YORK  VIEW  OF  INTERIOR  CURRENCY 
SHIPMENTS' 

The  clearing-house  committee  knew  by  experience  that  the  dissi- 
pation of  the  New  York  banking  reserve,  upon  which  practically  the 
credit  volume  of  the  nation  rests,  would  alarm  the  nation,  intensify 
the  panic,  and  greatly  prolong  the  period  of  recuperation.  New 
York  bankers  have  been  severely  criticized  because  they  did  not  more 
fully  respond  to  the  demands  of  country  correspondents  by  shipping 
currency  against  balances.  To  have  fully  honored  the  demands  that 
were  pouring  in  from  all  sections  of  the  country  would  have  dissipated 
our  banking  reserve  in  a  fortnight.  How  could  it  be  replenished  ? 
Were  the  interior  bankers  sending  currency  to  New  York  ?  What 
would  have  been  the  effect  upon  the  country  if  the  New  York  banking 
reserve  had  been  entirely  depleted  ?  It  would  have  so  intensified 
the  panicky  feeling  that  widespread  commercial  disaster  would  have 
resulted.  The  $53,000,000  deficit  in  our  banking  reserve  occurred 
in  less  than  ten  days  after  the  failure  of  the  Knickerbocker  Trust 
Company,  and  was  caused  by  the  shipment  to  interior  institutions 
of  the  larger  portion  of  that  amount  in  that  short  time.  We  kept  the 
door  of  our  treasure  house  wide  open  until  for  the  good  of  the  country- 
it  became  necessary  everywhere  to  close  it.  It  never  was  fully  closed; 
currency  shipments  continued  in  a  restricted  way  througliout  the 
panic,  and  a  larger  number  of  our  banks  kept  up  their  counter  pay- 
ments as  usual. 

88.    LOANING  POLICY  DURING  A  CRISIS* 
By  O.  M.  W.  SPRAGUE 

The  "banking  stage  "  of  a  crisis  and  the  efforts  made  by  the  banks 
to  weather  the  storm  may  best  be  studied  in  connection  with  the  crisis 
of  1873,  since  the  statistical  data  for  this  panic  are  far  more  e.xtensivc 
than  those  which  we  have  for  the  later  crises  of  1893  and  1907. 

'  From  Hamilton,  Current  Economic  Problems,  p.  237. 

'  Adapted  from  History  of  Crises  under  the  National  Banking  System,  pp.  82-84, 
303-5.     (National  Monetary  Commission,  1910.) 


178 


PRINCIPLES  OF  MONEY  AND  BANKING 


Abstracts  of  the  regular  report  of  September  12  and  of  the  two 
special  returns  for  October  13  and  November  i  are  presented  in 
the  accompanying  table.  (The  crisis  came  to  a  head  on  September 
20.)  The  report  of  November  i  was  after  the  panic,  and  is  of  impor- 
tance only  in  showing  the  rapid  recovery  of  the  banks.  Attention 
should  be  given  chiefly  to  the  changes  which  occurred  between  vSep- 
tember  12  and  October  13.  The  following  table  shows  the  changes 
in  loans  for  the  banks  as  a  whole  for  the  three  groups  of  banks: 

(Expressed  in  millions) 


Country  Banks 

Reserve  City 
Banks 

Banks  in 
New  York 

Total 

Sept.  12,  1873 

$478.5 
455-8 
442.0 

$262.5 

247-5 
242.2 

$199.2 
179. 1 
169. 1 

$940 . 2 
882.4 
853-4 

Oct.    13,  187? 

Nov.    I,  1873 

The  contraction  of  loans  to  October  13  may  be  taken  as  repre- 
senting the  extent  of  contraction  which  was  due  to  and  which  in  turn 
contributed  to  the  severe  financial  strain  of  the  crisis.  The  further 
contraction  to  November  i  represented  the  diminishing  requirements 
of  business  owing  to  trade  depression.  By  the  banks  as  a  whole 
loans  were  reduced  by  $58,000,000  before  October  13,  or  slightly  more 
than  5  per  cent.  This  contraction  was  general,  both  the  country 
banks  and  those  in  reserve  cities  showing  a  contraction  of  about 
5  per  cent  and  those  in  New  York  a  more  considerable  contraction  of 
10  per  cent.  The  most  severe  contraction  among  city  banks  was 
in  Chicago,  where,  doubtless  owing  to  the  decision  of  the  banks  not 
to  issue  clearing-house  loan  certificates,  loans  were  reduced  from 
$25,300,000  on  September  12  to  $19,000,000  on  October  13. 

In  this,  as  in  other  American  crises,  a  somewhat  exaggerated 
opinion  became  current  as  to  the  extent  to  which  the  banks  required 
borrowers  to  liquidate  their  loans.  Difficulty  experienced  in  dis- 
posing of  commercial  paper  through  note  brokers  and  the  high 
rates  for  call  loans  seem  to  have  been  grounds  for  this  erroneous 
impression.  Under  our  banking  system  borrowers  imable  to  dispose 
of  their  paper  through  note  brokers  in  times  of  crisis  resort  more 
largely  to  the  particular  banks  which  hold  their  accounts  than  is  usual 
at  other  times.  This  shifting  of  loan  relationships  gives  rise  to  an 
impression  of  wholesale  contraction  which  the  statistics  of  the  total 
loans  of  the  banks  show  to  be  unfoimded. 


RELATIONS  BETWEEN  BANKS 


179 


The  statistical  data  for  the  crisis  of  1907  are  far  from  satisfactory. 
The  first  of  the  two  returns  made  was  on  August  22,  about  two  months 
before  the  crisis,  and  the  second,  on  December  3,  came  after  the 
worst  of  the  panic  was  passed.  For  1907  it  is  neccssar}^  to  assume 
that  no  great  change  had  taken  place  in  the  condition  of  the  banks 
between  the  end  of  August  and  the  middle  of  October,  an  assumption 
which,  judging  from  the  weekly  bank  statement  in  New  York,  Boston, 
and  Philadelphia,  is  not  far  from  the  facts  of  the  actual  situation. 
It  would,  however,  be  somewhat  hazardous  to  draw  conclusions  if 
it  were  not  that  the  same  tendencies  are  disclosed  which  were  so 
clearly  manifest  both  in  1873  ^-nd  in  1893. 

As  in  former  periods  of  crisis,  the  reserves  of  the  banks,  taken  as 
a  whole,  were  not  made  use  of  to  any  considerable  extent.  On 
August  22  the  banks  held  $701,600,000,  and  on  December  3,  $660,- 
800,000 — a  loss  of  only  $40,800,000.  If  the  holding  of  the  notes  of 
other  banks  are  included,  this  loss  is  reduced  to  only  $31,400,000. 
This  cash  loss  can  be  more  than  matched  on  many  occasions  when 
conditions  were  entirely  normal,  e.g.,  between  August  25  and  Novem- 
ber 9,  1905,  when  the  reserves  of  the  banks  fell  off  more  than  $43,- 
000,000.  By  means  of  loan  contraction,  the  loss  in  cash,  and  the 
diminution  in  indebtedness  between  the  banks,  net  deposits  were 
reduced  from  $5,256,000,000  to  $4,629,000,000,  and  there  was  a  slight 
increase  in  the  proportion  of  cash  held,  which  advanced  from  13.35 
per  cent  to  13.45  per  cent.  This  slight  increase  in  the  reserve  ratio 
was  entirely  in  accord  with  the  precedent,  and  its  ex-planation  is  to 
be  found  in  changes  in  the  condition  of  the  country  banks,  which  are 
shown  in  the  following  table: 

(Expressed  in  millions) 


August  22 


December  3 


Decrease 


Loans 

Net  deix)sits 

Cash  reserve 

Percentage  of  reserve 

Net  de|x>sits  With  reser\e  agents. 


$2,401  o 

2,627.0 

199.6 

7.6 

410.0 


$2,324  o 

2,485  o 

24O .  o 

9  9 
356  o 


$  77  o 

142.0 
47  6' 


54  o 


*  Increase. 


The  increase  of  $47,600,000  in  reserves  of  this  group  of  banks 
exceeded  by  $6,800,000  the  total  loss  in  reserves  of  the  banks  taken 
as  a  whole.  There  is  no  reason  to  believe  that  countr}'  banks  were 
endeavoring  to  hoard  the  money  which  they  withdrew  from  their 


i8o  PRINCIl'LKS  OF  MONEY  AND  BANKING 

reserve  agents  at  the  beginning  of  the  crisis.  They  needed  additional 
supplies  of  cash  if  they  were  to  meet  the  demands  of  their  own  deposi- 
tors. But  after  the  New  York  banks  suspended  and  suspension 
became  general  they  naturally  held  with  a  tight  grip  all  the  money 
which  they  had  in  their  possession  at  the  moment  and  also  very 
naturally  endeavored  to  extract  more  from  their  reserve  agents. 
The  withdrawal  of  money  was  entirely  in  accord  with  what  the 
teachings  of  past  experience  ought  to  have  led  reserve  agents  to 
expect  and  to  be  in  readiness  to  meet. 

89.    POSITION  OF  BANKS  IN  TIME  OF  PANIO 
By  H.  J.  DAVENPORT 

The  panic  cannot  be  controlled,  once  it  has  started,  by  any  policy 
of  restriction  of  credit,  but  only  by  generous  extension.  The  credi- 
tors are  hurrying  their  debtors  mostly  because  of  the  danger  of  being 
themselves  hurried,  or  because  of  the  danger  that  delay  may  mean 
that  some  other  creditor  may  by  his  promptitude  make  himself  the 
sole  creditor  paid  or  the  sole  creditor  obtaining  adequate  security. 
Were  really  solvent  debtors  sure  of  obtaining  credit  in  case  of  serious 
pressure,  there  would  be  few  creditors  to  press  them. 

In  fact,  also,  if  the  creditors  were  sure  of  credit  for  themselves 
in  case  of  need,  there  would  be  less  occasion  for  pushing  the  debtors. 
And  if  these  creditors,  in  turn,  were  not  in  danger  of  being  pushed 
by  other  creditors,  themselves  straitened  in  credit  and  themselves 
fearful  of  the  possible  failure  of  the  debtor  to  obtain  credit  under 
se""ous  need,  this  last  occasion  of  credit  pressure  would  be  mostly 
removed.  The  banks  stimulate  a  call  upon  themselves  for  credit  by 
X,  Y,  and  Z.  And  if  the  creditors  of  X,  Y,  and  Z  make  demands  upon 
them,  and  the  banks  refuse  to  give  credit  to  X,  Y,  and  Z,  these  men 
are  driven,  in  their  turn,  to  place  pressure  upon  still  other  debtors. 
The  hurry  grows  with  the  restriction  of  credit,  and  the  further  restric- 
tion of  credit  adds  to  the  hurry.  The  process  is  a  geometrical  pro- 
gression. And  immediately  that  no  one  can  get  credit  to  pay  with 
there  is  a  frightened  scramble  to  enforce  payment  in  money,  to  get 
money  to  pay  with,  to  hoard  money  against  possible  necessities. 
The  attempt  of  the  banks  to  hold  fast  to  their  reserves  is  the  very 
force  which  is  prompting  the  taking  them  away;    depositors  under 

'  Adapted  from  Economics  of  Enterprise,  pp.  285-88.  (The  Macmillan  Co., 
1913) 


RELATIONS  BETWKEX  HANKS  I  Si 

pressure  are  withdrawing  funds  to  meet  claims  in  other  centers,  or, 
suspicious  of  the  continued  aliility  of  the  bank  to  pay  upon  demand, 
or  suspicious  of  the  ultimate  solvency  of  the  bank,  are  calling  for 
cash  to  be  hoarded.  The  fact  is  that  it  is  not  necessary  that  a 
stringency  have  already  arisen  in  order  to  bring  about  the  panic 
stringency;  merely  the  menace  of  stringency  is  necessary. 

The  difficulty  is  not  precisely  in  the  fact  that  some  banks  purport 
to  hold  in  large  part,  but  actually  do  not  hold,  the  reserves  of  other 
banks;  that  under  our  system  of  redepositing  reserves  more  than 
three-fourths  of  the  reserves,  computed  as  somewhere  else,  are  really 
not  where  they  are  supposed  to  be,  but  instead  are  still  somewhere 
else,  where,  in  turn,  they  really  are  not,  and  that,  therefore,  in  times 
of  stress  the  banks  themselves  are  the  most  serious  sources  of  pressure 
upon  one  another;  that  the  banks  are  not  only  themselves  among  the 
very  depositors  whose  calls  are  so  disastrous,  but  are,  of  all  the  depos- 
itors, the  ones  likely  to  be  first  in  their  calls.  Although  all  tliis  is 
serious  enough,  the  ultimate  difficulty  is  that  the  very  process  by 
which  all  the  banks  at  once  are  tr^dng  to  strengthen  their  reserves 
is  an  altogether  impossible  process,  a  paradox,  a  deathblow  at  the 
very  fundamental  principle  of  banking.  Any  general  attempt  to 
convert  banking  paper  or  deposit  credit  into  gold  must  promptly 
issue  in  a  lamentable  collapse  of  the  whole  credit  machinery'.  The  last 
people  to  make  this  attempt  should  be  the  bankers  themselves.  If 
other  interests  attempt  it,  the  banker's  duty  is  to  intervene  to  save 
the  situation.  The  attempt  must  in  any  case  fail,  but  all  sorts  of 
calamity  must  attend  this  eflort  at  the  imiwssi])le.  When  the  banks 
themselves  join  in  the  scramble,  the  last  hope  of  supporting  tlie  credit 
fabric  has  vanished. 


90.    TREASURY  AID  IN  TIME  OF  CRISIS" 

BY  DAVID  KINLEY 

I.      BY   DEPOSIT   OF    FUNDS 

During  the  ten  days  from  October  21  to  31,  1907,  the  Trcasurv- 
transferred  to  the  national  banks  of  New  York  city  $37,507,000,  which 
the  banks  immediately  advanced  to  tlie  trust  companies  to  meet  the 

'  Adapted  from  The  IndependetU  Treasury  of  the  United  States  and  Its  ReJation 
to  the  Banks  of  the  Country,  pp.  257-60.     (National  Monetary  Commission,  1910.) 


1 82  PRINCIPLES  OF  MONEY  AND  BANKING 

run  on  them.  In  order  to  aid  the  banks  in  meeting  the  demand  of  the 
interior  for  currency,  the  Treasury  Department  in  three  days  furnished 
the  New  York  banks  about  $36,000,000  in  small  bills.  "As  the 
stringency  progressed  the  Treasurer  gave  relief  in  every  important 
locality  where  assistance  seemed  to  be  required.  By  the  middle  of 
November  the  Treasury  had  deposited  in  the  banks  all  the  money 
it  could  spare;  indeed,  it  had  reduced  its  working  surplus  to  about 
$5,000,000." 

An  analysis  of  the  entire  problem  of  treasury  aid  in  time  of  crisis 
shows  that  the  independent  treasury  exercises  a  beneficial  influence 
only  in  the  earlier  stages  of  a  crisis  caused  by  a  speculative  advance 
of  prices;  that  in  the  later  stages  of  such  an  occurrence  its  influence  is 
evil  to  a  greater  or  less  degree,  according  as  its  receipts  happen  to 
exceed  or  to  be  less  than  its  disbursements;  that  in  a  stringency 
caused  by  a  rapid  but  healthy  increase  of  business  its  absorptive 
influence  is  wholly  bad,  but  that  in  the  later  stage  of  such  a  crisis  its 
disbursements  are  promotive  of  good,  unless  mismanaged  or  too  long 
delayed. 

Hence  we  see  that  the  coincidence  of  a  particular  phase  or  stage 
of  the  progress  of  a  crisis  is  necessary  in  order  that  the  influence  of 
the  subtreasury  may  be  beneficial.  But  such  a  coincidence  is  purely 
fortuitous,  and  this  fact  deprives  the  system  of  all  value  as  a  scientific 
mode  of  relief  in  crises. 

n.      INDIRECT   AID 

Further  to  relieve  the  situation  Secretary  Cortelyou  notified  the 
national  banks  that  they  might  substitute  "bonds  suitable  for 
savings  banks  investments  for  government  bonds  which  were  held 
as  securities  against  public  deposits."  The  Secretary's  purpose  in 
doing  this  was  the  same  as  that  of  Secretary  Shaw  in  resorting  to  the 
same  device  four  years  previously.  He  wished  to  increase  the  volume 
of  United  States  bonds  available  for  circulation.  Under  this  stimulus 
the  circulation  of  the  national  banks  increased  by  December  21,  1907, 
to  $83,012,153.  Still  the  difficulty  of  obtaining  bonds  and  the 
awkward  machinery  of  administration  in  issuing  national-bank  notes 
had  the  usual  result  of  making  the  increase  of  circulation  virtually 
ineffective  until  after  the  need  for  it  had  passed  away.  The  volume 
of  national-bank  currency  increased  by  $24,000,000  between  October 
15  and  November  15,  but  at  the  close  of  the  year,  it  had  risen  much 


RELATIONS  BETWEEN  BANKS  183 

more.  The  circulation  continued  to  increase,  however,  although  the 
demand  for  it  no  longer  existed,  until,  about  the  middle  of  January, 
it  became  $695,927,806. 

Of  course  the  usual  effect  on  the  price  of  bonds  followed.  The 
increased  demand  drove  up  the  2  per  cent  bonds  as  high  as  no,  and 
even  at  that  price  the  amount  available  was  regarded  as  too  small. 
Accordingly  the  Secretary  thought  it  necessary  to  adopt  additional 
means  to  relieve  the  situation,  and  on  November  1 7  he  offered  a  loan 
of  $50,000,000  in  Panama  Canal  bonds  under  authority  of  the  act  of 
June  28,  1902,  and  $100,000,000  of  3  per  cent  certificates  of  indebted- 
ness under  the  act  of  June  30,  1898.  Of  the  bonds  only  $24,631,980 
were  taken  by  the  public  and  $15,436,500  of  the  loan  certificates. 
Tt  is  a  Httle  difficult  to  understand  the  reason  for  this  action  unless 
the  Secretary-  hoped  to  sell  the  bonds  and  securities  to  people  who 
were  hoarding  money.  Of  course  the  purchase  of  these  securities 
by  the  banks,  or  by  people  who  were  not  hoarding,  simply  reduced  the 
circulation  and  would  have  made  the  situation  worse.  In  order  to 
avoid  this,  however,  the  Secretary  transferred  part  of  the  purchase 
money  to  the  banks.  Therefore  with  one  hand  he  was  withdrawing 
money  from  circulation  in  payment  of  his  bonds  and  with  the  other 
was  restoring  it  by  depositing  it  in  the  banks.  The  banks  which 
purchased  these  securities  were  allowed  to  retain  90  per  cent  of  the 
purchase  price  of  the  Panama  bonds  as  a  deposit  and  75  per  cent  of 
that  of  the  certificates. 

In  addition  to  these  positive  means  of  assistance  undertaken  by 
the  Secretary  of  the  Treasury,  the  Comptroller  of  the  Currency, 
fearing  that  a  revelation  of  their  condition  would  add  to  tlie  panic 
in  a  measure,  decided  to  postpone  the  call  on  the  national  banks  for 
a  report  in  November.  This  action  operated  favorably,  because  the 
banks  were  putting  themselves  in  shape  to  meet  the  call.  The  delay 
made  them  more  cautious  in  making  discounts  and  lowering  their 
reserves.  Evidence  that  this  was  the  case  is  found  in  a  statement  of 
the  Secretary  himself  that  "the  fact  that  a  call  had  been  made  and 
a  report  submitted  contributed  another  favoraljle  factor  to  the 
situation  immediately  afterwards  by  enabling  the  banks  to  release 
a  part  of  this  accumulated  cash  to  meet  the  pressing  needs  of  their 
clients,  with  the  knowledge  that  they  would  probably  be  able  to 
fully  reinstate  their  reserves  before  another  call  was  made  by  the 
ComptroUer." 


l84  PRINCIPLES  OF  MONEY  AND  BANKING 

91.    THE  NEED  IN  TIME  OF  CRISIS' 
By  J.  LAURENCE  LAUGHLIN 

It  will  probably  appear  to  many  that  the  demand  of  the  public 
for  expanding  issues  of  currency  is  of  vital  importance  in  a  time  of 
financial  distress,  such  as  that  in  the  autumn  of  1907.  It  is  supposed 
that  in  a  time  of  stringency  the  public  will  demand  more  circulation; 
and  to  support  this  view  the  events  of  the  panic  of  1907  have  been 
drawn  upon  as  proof.  It  is  true,  of  course,  that  government  or  bank 
notes  could  not  be  had  in  most  cities  during  the  height  of  the  panic  of 
1907,  even  in  small  sums;  and  as  a  consequence  the  clearing-house 
associations  issued  clearing-house  notes  (as  distinct  from  clearing- 
house loan  certificates)  for  circulation  among  the  public.  Without 
doubt  this  inability  to  get  cash  for  a  small  check  on  a  bank  or  at 
a  paying  office  made  a  deeper  impression  on  the  minds  of  the  people 
than  any  other  event  during  the  panic.  It  was,  as  everyone  must 
admit,  a  striking  commentary  on  the  inadequacy  of  our  banking  and 
monetary  system  that  it  was  impossible  for  the  banks  to  supply  to 
employers  of  labor  and  for  the  small  needs  of  every  day  a  relatively 
small  amount  of  currency  having  a  general  circulation.  Yet,  on  the 
other  hand,  it  is  a  fact  that  the  total  amounts  of  the  clearing-house 
notes  for  the  use  of  the  public  were  not  large,  nor  were  they  long 
outstanding.  Moreover,  as  affecting  the  ability  of  the  producing 
and  trading  firms  to  weather  the  stress  of  the  panic,  they  had  practi- 
cally no  influence  whatever. 

The  power  to  expand  their  note  issues  (which  are  liabilities)  could 
not  have  added  to  the  cash  reserves  of  the  banks  and  thus  have 
enlarged  their  power  to  aid  needy  borrowers.  It  is  true,  however, 
that  an  expansion  of  note  issues  would  have  aided  the  banks  indirectly; 
it  would  have  allowed  them  to  satisfy  the  urgent  demand  of  the  public 
for  a  medium  of  exchange  by  passing  out  their  notes,  and  thus  would 
have  enabled  them  to  retain  lawful  money  which  could  be  used  as 
reserves  to  support  their  loans  and  deposits. 

The  reserve  city  bank  which  can  quickly  increase  its  own  notes 
can  also  supply  the  demands  made  upon  it  by  country  national 
banks  and  correspondents — provided  the  country  bank  wishes  only 
currency  for  circulation  in  the  neighborhood  and  not  for  its  own 
reserves.     Here,  again,  the  new  bank  issues  do  not  give  the  pivotal 

'  Adapted  from  "Banknotes  and  Lending  Power,"  Journal  of  Political  Economy, 
XVIII  (1910),  pp.  779-83- 


RELATIONS  BETWEEN  BANKS  185 

aid  which  some  suppose  always  comes  from  additional  circulation. 
Not  being  lawful  money  they  could  not  be  used  in  reserves,  and  there- 
fore would  not — and  could  not — improve  the  lending  power  of  the 
local  country  bank.  They  would,  however,  supply  currency  to  the 
country  bank  which  could  be  paid  out,  if  urgently  demanded,  and 
thus  indirectly  protect  reserves. 

Another  advantage  in  emergency  bank  notes,  of  course,  is  the 
opportunity  they  present  to  national  banks  having  relations  with 
state  banks  and  trust  companies.  By  issuing  their  own  notes  they 
may  exchange  them  for  lawful  money  held  by  banks  outside  the 
national  system.  In  this  way  they  can  indirectly  increase  their 
lawful  money,  and  consequently  their  power  to  lend. 

But,  primarily,  the  issue  of  bank  notes  is  for  circulation  in  the 
hands  of  the  public  and  not  for  any  serious  advantage  which  they 
render  in  increasing  the  power  of  the  banks  to  lend  and  stave  off 
a  panic.  The  real  difficulty  resides,  not  with  the  general  public  and 
the  media  of  exchange — for  checks  are  as  good  as  ever  as  a  medium 
of  exchange  if  there  are  deposit  accounts  on  which  they  can  be  drawn — 
but  with  the  banks,  with  the  power  of  the  banks  to  expand  their  loans 
in  a  time  of  stress.  This  is  the  pivotal  thing  in  any  plan  to  relieve 
the  distress  of  a  financial  panic. 

92.     BOND-SECURED  NOTES  AND  CYCLICAL  ELASTICITY' 

Bank  notes  secured  by  bonds  are  open  to  several  serious  objec- 
tions from  the  standpoint  of  elasticity.  In  the  first  place  the  bonds 
sell  above  par  and  bear  a  low  rate  of  interest;  and  yet,  in  limes  of 
financial  stringency,  the  rate  of  discount  is  sure  to  be  high,  and  bor- 
rowers are  in  great  need  of  loans.  As  against  buying  bonds  bearing 
a  low  rate  of  interest  in  order  to  issue  notes,  there  is  the  opportunity 
for  the  banks  to  loan  such  funds  directly  at  the  high  market  rate  of 
discount.  The  situation,  therefore,  puts  a  premium  upon  the  direct 
use  of  banking  capital,  as  against  the  method  of  investment  which 
leads  to  increasing  the  bank-note  circulation.  In  those  communities 
where  bank  notes  are  essential  to  making  discounts  this  is  a  serious 
obstacle.  In  short,  at  the  time  or  place  of  jircssing  demand  under 
the  existing  system  the  sui)ply  of  notes  is  not  forthcomiTig. 

On  the  other  hand,  if  the  country  is  suffering  from  business 
depression,  if  funds  are  accumulating  in  the  banks,  and  if  the  market 

'  Adapted  from  Report  of  the  Convention  of  Indiancpolis  Monetary  Commission 
(1898),  pp.  228-30. 


1 86  PRINCIPLES  OF  MONEY  AND  BANKING 

rate  of  interest  is  low  because  there  are  few  opportunities  of  profitably 
employing  capital,  then  it  would  not  be  impossible  to  expect  the 
banks  to  use  superabundant  funds  in  buying  bonds  of  a  low  rate  of 
interest.  Therefore,  at  a  time  when  the  demand  for  loans  is  slight 
and  the  rate  of  discount  low,  it  would  be  easy  for  the  banks  to  invest 
in  bonds  and  thereby  obtain  notes.  In  short,  when  there  is  no 
demand  the  supply  is  easily  obtained.  It  needs  no  further  comment, 
consequently,  to  see  that  such  a  system  of  note  issues  works  at  cross- 
purposes  with  the  needs  of  the  public.  With  a  deposit  of  bonds  for 
security  of  notes,  there  is  no  supply  of  notes  at  a  time  when  most 
needed  and  an  abundant  supply  of  notes  when  least  needed. 

To  give  concrete  examples,  the  financial  panic  of  1890  caused 
a  fall  in  the  prices  of  government  bonds,  and  thereby  increased  the 
chances  of  profit  on  the  circulation  of  national  bank  notes.  As  a 
result  there  was  a  net  increase  of  $13,000,000  in  their  circulation  in 
1891  and  of  $8,000,000  in  1892.  Now,  in  these  two  years,  there  was 
absolutely  no  demand  for  an  increase  in  the  circulating  medium  of 
this  country;  on  the  contrary,  the  Treasury  Department  in  these  years 
was  injecting  arbitrarily  between  $25,000,000  and  $50,000,000  of  silver 
paper  money  into  the  currency  of  the  country,  as  a  result  of  the 
Silver  Purchase  Act  of  1890,  and  gold,  in  consequence,  was  being 
exported  at  a  rate  which  alarmed  business  men  and  finally  precipi- 
tated the  panic  of  1893. 

"During  1893  the  4's  of  1907  sold  down  to  113,  and  the  banks 
added  to  their  circulation  $37,000,000.  During  the  months  of  June, 
July,  and  August  of  that  year  there  was  a  most  urgent  need  for  an 
expansion  of  the  currency;  but  during  these  months  the  new  national 
bank  notes  did  not  appear.  Not  until  after  the  panic  was  over  and 
money  was  piling  up  in  all  the  financial  centers — a  drug  on  the 
market — did  the  increase  in  the  national  bank  note  circulation  take 
place.  As  a  result  of  the  panic,  business  being  depressed,  the  interest 
rate  on  prime  commercial  paper  during  1894,  1895,  and  1896  was 
between  3  per  cent  and  4  per  cent.  The  money  supply  of  the  country 
was  in  excess  of  its  needs  and  gold  was  exported  in  large  amounts. 
The  Treasury,  embarrassed  by  the  withdrawals  of  gold,  was  forced 
to  issue  bonds  in  order  to  maintain  the  gold  reserve.  These  bond 
issues  forced  down  the  prices  of  bonds,  and  thus  increased  the  profit 
which  banks  could  make  upon  new  circulation.  Therefore,  consider- 
able idle  banking  capital,  which  could  be  loaned  barely  at  3  per  cent 
in  business,  was  exchanged  for  government  bonds  and  made  the 


RELATIONS  BETWEEN  BANKS  187 

basis  for  liank  notes,  so  tliat  in  1895  '^'^^  1896  there  was  a  net  addi- 
tion to  the  bank  note  circulation  of  $32,000,000.  Thus,  the  national 
bank  note  helped  to  embarrass  the  government  by  inflating  the 
currency  at  a  time  when  the  government  was  doing  its  utmost  to 
hinder  inflation  and  prevent  the  exportation  of  gold  to  Europe." 

Secondly,  it  should  be  noted  that  when  the  necessities  of  business 
urgently  demand  additional  notes,  even  if  the  price  of  bonds  should 
be  such  as  to  make  the  issue  profitable,  the  delays  incident  to  the 
purchase  of  bonds,  the  taking  out  of  circulation  upon  them,  etc., 
would  make  it  impossible  to  obtain  the  currency  until  all  need  for  it 
was  practically  past.  Under  such  a  system,  therefore,  banks  must 
refuse  to  customers  additional  supphes  of  notes  upon  sudden  demand 
even  though  the  community  in  such  circumstances  has  enlarged  its 
currency  need  and  an  additional  supply  may,  therefore,  without 
additional  strain  on  the  bank,  be  kept  in  circulation.  Under  such 
circumstances,  if  notes  are  an  essential  to  the  borrower,  rates  for  loans 
rise  abnormally  and  crisis  conditions  are  vastly  intensified.  Prob- 
ably the  best  illustration  of  this  delay  in  responding  to  demand  was 
seen  in  the  difiiculty  of  obtaining  currency  during  the  summer  of  1893, 
when  it  was  practically  impossible  to  secure  a  sufficient  supply  of 
a  circulating  medium  of  any  sort.  The  New  York  banks  held  on 
June  I,  1893,  a  surplus  of  $21,000,000  in  excess  of  their  legal  reserve. 
At  that  time  the  volume  of  national  bank  notes  outstanding  was 
about  $177,000,000.  By  the  first  of  August  extraordinary  demands 
for  currency  had  drawn  down  the  reserves  $14,000,000  below  the 
legal  minimum  and  yet  the  outstanding  notes  were  only  about 
$5,000,000  more  than  on  June  i.  By  September  i,  however,  when 
the  reserves  were  but  $1,500,000  below  the  minimum,  and  the  urgency 
was  past  and  currency  once  more  comparatively  abundant,  the  notes 
had  begun  to  expand  and  had  already  reached  $199,800,000,  sub- 
sequently rising  to  $209,300,000  on  November  i,  notwithstanding 
the  continued  decrease  in  the  demand  for  them. 

93.    INTEREST  ON  DEPOSITS  AND  BANK-NOTE  INELASTICITY* 
By  O.  M.  W.  SPRAGUE 

During  periods  of  inactive  trade  the  amount  of  bank  notes  sent 
to  Washington  for  redemption  invariably  reaches  large  proportions. 
The  city  banks  are  chiefly  responsible  for  this  movement.  Some- 
thing like  half  the  notes  are  sent  in  by  the  New  York  banks  alone, 

'  Adapted  from  "Proposals  for  Strengthening  the  National  Banking  System," 
Qiiarlcrly  Journal  of  Economics,  XXIV  (1909-10),  pp.  639-40. 


l88  PRINCIPLES  OF  MONEY  AND  UANKINC] 

which,  when  rates  for  call  loans  are  persistently  below  2  per  cent,  arc 
naturally  desirous  of  reducing  bankers'  lialances  swollen  by  the 
receipt  of  idle  funds  from  all  quarters.  But  the  redemption  of  the 
notes  does  not  secure  contraction.  All  the  banks,  more  particularly 
the  country  banks  and  those  of  the  smaller  cities,  make  haste  to 
reissue  notes,  thus  setting  free  an  equivalent  amount  of  money, 
which  in  the  absence  of  local  demand  is  shipped  to  the  money  centres 
for  the  sake  of  the  interest  to  be  had  from  the  city  banks.  There  is 
a  sort  of  endless  chain,  the  working  of  which  can  be  interrupted 
only  by  the  discontinuance  of  the  present  practice  of  paying  interest 
on  bankers'  deposits.  Were  that  inducement  removed,  our  bond- 
secured  notes  would  prove  to  be  susceptible  of  a  considerable  measure 
of  contraction.  Even  if  the  banks  continued  to  reissue  their  notes 
as  regularly  as  at  present,  contraction  would  still  take  place.  An 
equivalent  amount  of  money  would  be  locked  up  in  the  banks,  since 
they  would  reap  no  advantage  from  sending  it  to  the  money  centres. 
Moreover,  even  if  it  were  sent  thither  the  pressure  on  city  banks  to 
force  a  demand  for  loans  by  the  offer  of  low  rates  would  be  removed 
and  they  would  doubtless  maintain  a  higher  reserve  level. 

94.    CLEARING-HOUSE    LOAN    CERTIFICATES    AND    EQUALI- 
ZATION OF  RESERVES^ 

By  O.  M.  W.  SPRAGUE 

In  1893  and  in  1907  the  clearing-house  loan  certificate  was  the 
only  device  resorted  to  in  order  to  secure  the  adoption  of  a  common 
policy  by  the  banks.  In  1873,  as  on  earlier  occasions  when  its  use 
was  authorized,  provision  was  also  made  for  the  equalization  of  the 
reserves  of  the  banks.  Thus  in  1873  the  Clearing-House  Association, 
in  addition  to  the  customary  arrangements  for  the  issue  of  loan 
certificates,  adopted  the  following  resolution: 

That  in  order  to  accomplish  the  purposes  set  forth  in  this  agreement 
the  legal  tenders  belonging  to  the  associated  banks  shall  be  considered  and 
treated  as  a  common  fund,  held  for  mutual  aid  and  protection,  and  the 
committee  appointed  shall  have  power  to  equalize  the  same  by  assessment 
or  otherwise  at  their  discretion.  For  this  purpose  a  statement  shall  be 
made  to  the  committee  of  the  condition  of  such  bank  on  the  morning  of 
every  day,  before  the  opening  of  business,  which  shall  be  sent  with  the 
exchanges  to  the  manager  of  the  Clearing-House,  specifying  the  following 

'  Adapted  from  "Proposals  for  Strengthening  the  National  Banking  Sj^stem," 
Quarterly  Journal  of  Economics,  XXIV  (1909-10),  pp.  232-39. 


RELATIONS  BETWEEN  BANKS  189 

items:       (i)    Loans  and  discounts.       (2)    Amount  of  loan  certificates. 

(3)  Amount  of  United  States  certificates  of  deposit  and  legal-tender  notes. 

(4)  Amount  of  deposits,  deducting  therefrom  the  amount  of  special  gold 
deposits. 

Two  fairly  distinct  powers  were  given  the  clearing-house  com- 
mittee: the  right  to  issue  clearing-house  certificates,  and  control 
over  the  currency  portion  of  the  reserves  of  the  banks.  This  machin- 
ery was  devised  (according  to  tradition)  after  the  crisis  of  1857  by 
George  S.  Coe,  who  for  more  than  thirty  years  was  president  of  the 
American  Exchange  National  Bank.  The  purpose  of  the  certificate 
was  to  remove  certain  serious  difhculties  which  had  become  generally 
recognized  during  that  crisis.  The  banks  had  pursued  a  }X)licy  of 
loan  contraction  which  ultimately  led  to  general  suspension,  because 
it  had  proved  impossible  to  secure  an  agreement  among  them.  The 
banks  which  were  prepared  to  assist  the  business  communit\-  with 
loans  could  not  do  so  because  they  would  be  certain  to  be  found  with 
unfavorable  clearing-house  balances  in  favor  of  the  banks  which 
followed  a  more  selfish  course.  The  loan  certificate  provided  a  means 
of  payment  other  than  cash.  What  was  more  important,  it  took 
away  the  temptation  from  any  single  bank  to  seek  to  strengthen  itself 
at  the  expense  of  its  fellows  and  rendered  each  bank  more  wilUng 
to  assist  the  community  with  loans  to  the  extent  of  its  power. 

But  in  addition  to  the  arrangement  for  the  use  of  loan  certificates 
provision  was  also  made  for  what  was  called  the  equalization  of 
reserves.  The  individual  banks  were  not,  of  course,  equally  strong  in 
reserves  at  the  times  when  loan  certificates  were  authorized.  From 
that  moment  they  would  be  unable  to  strengthen  themselves,  aside 
from  the  receipt  of  money  from  depositors,  except  in  so  far  as  tlie 
other  banks  should  choose  to  meet  unfavorable  balances  in  cash. 
Moreover,  withdrawals  of  cash  by  depositors  would  not  fall  cvenlv 
upon  the  banks.  Some  would  find  their  reserves  falling  away  rapidly 
with  no  adequate  means  of  replenishing  them.  The  enforced  sus- 
pension of  individual  banks  would  pretty  certainly  involve  the  other 
banks  in  its  train.  Finally,  it  would  not  be  impossible  for  a  bank 
to  induce  friendly  depositors  to  present  checks  on  other  banks  directly 
for  cash  payment,  instead  of  deix)siting  them  for  collection  and 
probable  payment  in  loan  certificates,  through  the  clearing-house. 
The  arrangement  for  equalizing  reserves  therefore  diminished  the 
likelihood  of  the  Imnks  working  at  cross-]niri)oses — a  danger  which  the 
use  of  clearing-house  certificates  alone  cannot  entirely  remove. 


IQO  PKINCri'LKS  OF  MONKY  AND  BANKING 

These  arrangements  had  enabled  the  banks  to  pass  through 
periods  of  severe  strain  in  i860  and  in  1861  without  suspension.  In 
both  instances  the  use  of  the  loan  certificate  was  followed  immedi- 
ately by  an  increase  in  the  loans  of  the  banks,  and  in  a  short  time 
by  an  increase  in  their  reserves.  The  stipulation  in  1873  was  more 
serious,  and,  as  events  proved,  the  reserve  strength  of  the  banks,  while 
sufBcient  to  carry  them  through  the  worst  of  the  storm,  was  not 
enough  to  enable  them  to  avoid  the  resort  to  suspension. 

In  1884,  the  next  occasion  when  clearing-house  loan  certificates 
were  issued,  the  opposition  to  the  provision  for  the  equalization  of 
reserves  was  so  widespread  that  it  does  not  appear  that  it  was  even 
formally  considered.  The  ground  for  this  opposition  can  be  readily 
understood.  In  1873  the  practice  of  paying  interest  upon  bankers' 
deposits  was  generally  regarded  with  disfavor.  Only  twelve  of  the 
clearing-house  banks  offered  this  inducement  to  attract  deposits; 
but  by  this  means  they  had  secured  the  bulk  of  the  balances  of  out- 
side banks.  It  was  in  meeting  the  requirements  of  these  banks  that 
the  reserves  of  all  the  banks  were  exhausted  at  that  time.  The  non- 
interest-paying  banks  entered  into  the  arrangement  by  the  equali- 
zation of  reserves  in  expectation  of  securing  a  clearing-house  rule 
against  the  practice  of  paying  interest  on  deposits.  But  their  efforts 
had  resulted  in  failure.  Some  of  them  had  employed  their  reserves 
for  the  common  good  most  reluctantly  in  1873,  and  the  feeling 
against  a  similar  arrangement  in  1884  was  naturally  far  stronger  and 
more  general.  Moreover,  the  working  of  the  pooling  agreement  in 
1873  had  occasioned  heartburnings  which  had  not  entirely  dis- 
appeared with  the  lapse  of  time.  It  was  believed,  and  doubtless 
with  reason,  that  some  of  the  banks  had  evaded  the  obligations  of  the 
pooling  agreement.  It  was  said  that  some  of  the  banks  had  encour- 
aged special  currency  deposits  so  as  not  to  be  obliged  to  turn  money 
into  the  common  fund.  Further,  as  the  arrangement  had  not  included 
bank  notes,  banks  exchanged  greenbacks  for  notes  in  order  either  to 
increase  their  holdings  of  cash  or  to  secure  money  for  payment  over 
the  counter.  Here  we  come  upon  an  objection  to  the  pooling  arrange- 
ment which  doubtless  had  much  weight  with  the  specially  strong 
banks,  although  it  is  more  apparent  than  real.  In  order  to  supply 
the  pressing  requirements  of  some  banks,  others  who  believed  that 
they  would  have  been  able  to  meet  all  the  demands  of  their  depositors 
were  obliged  to  restrict  payments.  That  such  an  expectation  would 
have  proved  illusory  later  experience  affords  ample  proof.     When 


RELATIONS  BETWEEN  BANKS 


191 


a  large  number  of  the  banks  in  any  locality  suspend,  the  others  cannot 
escape  adopting  the  same  course.  But  in  1884  the  erroneousness 
of  the  belief  had  not  been  made  clear  by  recent  experience. 

The  New  York,  banks  weathered  the  moderate  storms  of  1884  and 
1890  without  suspension  by  means  of  the  clearing-house  loan  certifi- 
cate alone,  and  in  the  course  of  time  all  recollection  of  the  arrange- 
ment for  the  equalization  of  reserves  seems  to  have  faded  from  the 
memory  of  the  banking  community. 

In  1893  only  a  small  part  of  the  balances  between  the  banks  was 
settled  in  certificates  at  first;  but  by  the  end  of  July  practically  all 
balances  were  settled  in  that  way  and  suspension  followed  at  once. 
In  1907  all  the  banks  having  unfavorable  balances,  with  but  one 
important  exception,  took  out  certificates  on  the  first  day  that  their 
issue  was  authorized,  and  suspension  was  then  for  the  first  time 
simultaneous  with  their  issue. 

The  connection  between  suspension  and  the  use  of  clearing-house 
loan  certificates  as  the  sole  medium  of  pa\Tnent  between  the  banks  is 
simple  and  direct.  The  bank  which  receives  a  relatively  large  amount 
of  drafts  and  checks  on  other  banks  from  its  customers  cannot  pay 
out  cash  indefinitely  if  it  is  unable  to  secure  any  money  from  the 
banks  on  which  they  are  drawn.  So  long  as  only  a  few  banks  are 
taking  out  certificates  and  the  bulk  of  payments  are  made  in  money 
no  difficulty  is  experienced;  but  as  soon  as  all  the  banks  make  use 
of  that  medium  tlie  suspension  of  the  banks  which  have  large  num- 
bers of  correspondents  soon  becomes  inevitable.  The  clearing-house 
loan  certificate  was  a  device  which  the  banks  themselves  had  adopted, 
and  they  had  failed  to  provide  any  means  for  preventing  partial 
suspension  as  the  result  of  its  use.  That  the  arrangement  for  equal- 
izing the  reserves,  adopted  in  1873,  would  have  availed  to  prevent 
suspension  on  subsequent  occasions  is  highly  probable,  indeed  a 
practical  certainty. 

The  reserve  situation  in  1893  and  1907  was  by  no  means  desper- 
ate at  the  time  of  suspension.  In  1893  the  New  York  banks  were  in 
what  was  for  them  an  unusually  strong  condition  at  the  beginning  of 
the  disturbance,  having  early  in  June  a  cash  reserve  exceeding  30 
per  cent  of  their  net  deposits.  A  succession  of  banking  failures  in  the 
West  and  South  led  to  heavy  withdrawals  from  New  York  during 
the  latter  part  of  June  and  the  beginning  of  July.  Then  followed 
a  lull  and  money  began  to  be  returned  to  New  York.  During  the 
third  week  of  July  banking  failures  were  renewed  in  the  West  and 


192  PRINCIPLES  OF  MONEY  AND  BANKING 

South  and  the  drain  was  resumed.  The  positively  unfavorable  aspects 
of  the  situation  were  altogether  similar  to  those  of  the  previous  month, 
with  the  one  further  circumstance  of  a  reduced  cash  reserve  in  New 
York.  On  the  other  hand,  additional  means  with  which  to  meet  the 
situation  were  becoming  available.  At  the  end  of  July  gold  imports 
in  large  amounts  had  been  arranged.  Foreign  purchases  of  our 
securities  were  heavy,  reflecting  increasing  confidence  in  the  repeal 
of  the  silver-purchase  law.  Arrangements  had  also  been  made  which 
would  certainly  lead  to  a  considerable  increase  in  the  issues  of  bank 
notes  during  August  and  September.  Notwithstanding  all  these 
favorable  circumstances  the  New  York  banks  suspended,  during  the 
first  week  of  August,  when  they  still  held  a  cash  reserve  of  $79,000,000, 
more  than  20  per  cent  of  their  deposit  liabilities. 

In  1907  the  New  York  banks  restricted  payments  when  they  still 
held  a  cash  reserve  of  more  than  $220,000,000  and  when  the  reserve 
ratio  was  also  above  20  per  cent.  Both  in  1893  and  in  1907  suspen- 
sion was  not  a  measure  of  last  resort  taken  after  the  banks  had  entirely 
exhausted  their  reserves  and  when  there  were  no  means  of  securing 
additional  cash  resources.  Moreover,  after  cash  payments  were 
restricted  the  policy  of  the  banks  was  unlike  that  adopted  in  1873 
in  that  the  banks  did  not  make  further  use  of  their  reserves;  they 
hoarded  them  and  added  to  their  amount,  thus  unduly  prolonging 
the  period  of  suspension. 

95.     SUBSTITUTES  FOR  CASH  IN  THE  PANIC  OF  1907' 
By  a.  PIATT  ANDREW 

Reports  from  the  145  largest  "independent"  cities  show  that  during 
the  disturbance  of  1907  in  at  least  71,  or  nearly  half,  resort  was  made 
by  the  banks  to  clearing-house  loan  certificates,  clearing-house  checks, 
cashiers'  checks  payable  only  through  the  clearing-house,  or  other 
substitutes  for  legal  money;  in  20  others  the  larger  customers  of  the 
banks  were  asked  to  mark  their  checks  "payable  only  through  the 
clearing-house";  and  in  at  least  one  other,  where  these  practices 
were  not  pursued,  the  size  of  checks  that  would  be  cashed  was 
restricted.  Roughly  speaking,  in  two-tliirds  of  the  cities  of  more  than 
25,000  inhabitants  the  banks  suspended  cash  payments  to  a  greater 
or  less  degree. 

'  Adapted  from  "Substitutes  for  Cash  in  the  Panic  of  1907,"  Quarterly  Journal 
of  Economics,  XXII  (1907-8),  501-16. 


RELATIONS  BETWEEN  BANKS 


193 


Seven  dillerent  types  of  substitutes  for  cash  have  been  distin- 
guished, though  some  of  them  closely  resemble  each  other.  There 
were  also  many  variations  in  the  various  individual  types. 

A.  The  familiar  expedient  of  issuing  clearing-house  loan  certifi- 
cates in  denominations  ranging  from  $500  to  $20,000  for  use  in  settling 
interbank  balances  has  never  been  resorted  to  upon  such  a  scale  as  in 
1907.  During  the  panic  of  1893  eight  cities  were  re])orted  to  have 
employed  them;  but  during  the  disturbances  of  1907  they  were  used 
by  no  less  than  42.  The  aggregate  issue  of  regular  clearing-house 
certificates  in  the  entire  country  during  the  panic  of  1907  was  238 
millions,  or  nearly  three  and  a  half  times  the  total  of  1893. 

B.  During  the  panic  of  1893,  for  the  first  time  clearing-house 
associations  issued  certificates  in  currency  denominations  to  be  used 
by  the  banks  in  paying  their  customers.  Their  issue,  however,  was 
practically  confined  to  the  southeastern  states.  In  the  panic  of  1907 
Georgia  was  again,  as  in  1893,  the  center  for  emergency  circulation 
of  this  sort,  what  were  called  "clearing-house  certificates"  being 
issued  in  at  least  21  Georgia  towns;  but  devices  of  that  name  were 
also  put  in  circulation  in  many  other  parts  of  the  country,  and  not 
infrequently  even  by  banks  of  small  towns,  where  no  clearing-house 
had  ever  existed.  In  such  cases  they  were  issued  under  the  auspices 
of  temporary  committees  of  the  local  banks,  which  accei)ted  and  held 
the  collateral  olTered  to  guarantee  their  redemption. 

These  small  certificates,  like  the  large  ones,  were  secured  by 
collateral  deposited  with  the  clearing-house  committee,  and  were 
practically  guaranteed  by  all  the  associated  banks,  in  that  these 
banks  agreed  to  accept  them  at  par  for  the  sum  named.  The  descrip- 
tion of  collateral  in  most  cases  was  a  general  aflirmation  that  "this 
certificate  is  secured  by  the  de]>osit  of  approved  securities."  But 
sometimes  there  was  more  detail,  as  in  Portland,  Oregon,  where  it 
was  asserted  that  the  banks  have  deposited  "  notes,  bills  of  exchange, 
and  other  negotiable  instruments  secured  by  wheat,  grain,  canned 
fish,  lumber  actually  sold,  and  other  marketable  products,  and  bonds 
approved  by  the  committee,"  etc.;  or  in  the  case  of  Charleston,  South 
Carolina,  where  there  were  said  to  be  deposited  "securities  of  double 
the  value  of  this  certificate,  or  bonds  of  the  United  States  or  of  the 
State  of  South  Carolina,  or  of  the  city  of  Charleston,  or  of  the  city  of 
Columl)ia,  10  per  cent  in  excess  thereof." 

Many  of  the  certificates  were  elaljorately  engraved  and  were 
shaped  and  colored  so  as  to  rescmljle  ordinary  bank  or  government 


194  PRINCIPLES  OF  MONEY  AND  BANKING 

notes.  In  denomination  they  usually  ranged  from  $i  to  $20,  but  in 
some  cases,  as  in  Montgomery,  Alabama,  they  were  issued  for  con- 
venient sums  all  the  way  from  25  cents  to  $50. 

The  compilation  here  presented,  though  very  incomplete,  records 
an  issue  of  $23,831,813  of  such  devices  in  the  course  of  the  panic  of  1907. 

C.  Identical  with  these  certificates  in  character  and  function, 
though  differing  in  form,  were  the  clearing-house  checks  issued  in  a 
number  of  cities.  Like  the  certificates,  they  were  issued  by  the 
associations  to  member  banks  upon  the  deposit  of  approved  securities. 
Like  them,  they  were  accepted  for  deposit  in  any  of  the  banks,  but 
were  payable  only  through  the  clearing-house.  They  were  also  in 
currency  denominations,  and  were  often  quite  as  elaborately  engraved, 
so  as  to  resemble  currency.  The  one  peculiarity  which  distinguished 
them  from  certificates  was  that  instead  of  merely  certifying  indebted- 
ness on  the  part  of  the  clearing-house  association,  they  took  the  form 
of  checks  drawn  on  particular  banks,  and  signed  by  the  manager  of 
the  clearing-house.  In  Chicago  a  bank  desiring  such  checks  deposited 
with  the  clearing-house  a  corresponding  amount  of  the  ordinary  loan 
certificates  of  large  denominations  and  received  the  checks  in  cur- 
rency denominations  in  exchange.  They  were  also  issued  in  Cleve- 
land, Milwaukee,  Youngstown,  South  Bend,  and  some  smaller  cities. 
Our  record  includes  $12,060,248  of  such  issues. 

D.  In  spite  of  the  provisions  of  the  National  Bank  Act,  that  no 
national  banking  association  shall  issue  "any  other  notes  to  circulate 
as  money  than  such  as  are  authorized  by  the  provisions  of  this  title," 
a  large  number  of  national  banks  issued  what  were  practically  cir- 
culating notes  in  the  form  of  cashier's  checks  in  convenient  denomi- 
nations. In  spite  also  of  the  10  per  cent  tax  upon  any  notes  issued 
by  state  banks,  similar  devices  were  issued  freely  and  without  hin- 
drance by  some  of  those  institutions  as  well  (e.g.,  in  Superior,  Wis- 
consin). These  checks  usually  purported  to  be  "payable  to  bearer," 
but  they  were  "payable  only  through  the  clearing-house,"  or  "in 
exchange,"  or,  as  the  phrase  sometimes  went,  "in  clearing-house 
funds."  While  in  the  southeastern  states  it  was  common  for  the 
banks  in  the  small  towns  to  issue  conjointly  what  they  called  "clearing- 
house certificates,"  in  smaU  towns  of  the  Middle  West  the  "cashier's 
checks"  of  the  individual  banks  were  much  more  common.  Some- 
times these  cashier's  checks,  like  clearing-house  certificates  and 
clearing-house  checks,  were  secured  by  the  deposit  of  approved 
collateral  with  a  committee  of  the  clearing-house. 


RELATIONS  BETWEEN  BANKS 


195 


E.  Another  variety  of  currency  issued  during  the  panic  were  the 
New  York  drafts  in  denominations  of  $i  and  upward,  issued  by  the 
banks  of  Birmingham,  Alabama,  and  which  were  used  for  pay-rolls 
and  general  circulation  in  that  locality.  They  were  really  cashier's 
checks  drawn  on  New  York,  but  were  drawn  against  actual  balances 
held  by  particular  New  York  correspondents.  They  were  payable 
through  the  New  York  clearing-house,  and  were  not  otherwise  secured, 
yet  they  appear  to  have  circulated  in  and  about  Birmingham  to  the 
extent  of  millions  of  dollars  without  difficulty. 

F.  In  a  few  instances  the  currency  issued  by  tlie  banks  took  the 
form  of  negotiable  certificates  of  deposit  in  convenient  denommations. 
Sometimes  these  certificates  asserted  that  a  particular  person  or 
company  made  the  deposit,  as  in  the  case  of  the  Bank  of  Winston- 
Salem,  North  Carolina.  Sometimes  the  assertion  was  altogether 
general,  as  in  the  example  from  Berkeley,  California.  In  some  cases 
they  bore  interest,  and  were  payable  after  the  e.xjDiration  of  a  certain 
period;  in  others  they  were  immediately  acceptable  by  the  issuing 
bank  through  tlie  clearing-house,  and  in  such  cases  they  bore  no 
interest. 

G.  Last  of  all  among  the  emergency  devices  were  the  pay  checks 
payable  to  bearer  drawn  by  bank  customers  upon  their  banks  in 
currency  denominations  and  used  in  all  parts  of  the  country-  in  pay- 
ment of  wages  and  in  settlement  of  other  commercial  obligations. 
These  checks  were  generally  "payable  only  through  the  clearing- 
house," but  they  dilTcred  from  those  which  have  as  yet  been  con- 
sidered, in  that  they  were  not  a  liability  of  the  clearing-house 
association  or  of  the  bank  on  which  they  were  drawn,  but  of  the 
firm  or  coqDoration  for  whose  benefit  tliey  were  issued. 

The  pay-check  system  reached  its  largest  development  in  Pitts- 
burgh, where  during  the  panic  some  §47,000,000  were  issued,  much 
of  which  was  in  denominations  of  Si  and  $2.  Their  issue  involved 
much  more  labor  to  the  clearing-house,  to  the  banks,  and  to  the  corjx>- 
rations  using  tliem  tlian  the  issue  of  clearing-house  checks  would  have 
caused,  for  most  of  them  were  rushed  back  to  the  bank  witJiin  a  week 
or  ten  days,  and  new  checks  had  to  be  issued  in  their  stead. 

Pay  checks  were  also  issued  by  railroads,  mining  companies, 
manufacturers,  and  storekeepers  in  a  largo  number  of  cities.  Shops 
and  stores  and  places  of  amusement  in  the  neighborhood  of  their 
issue  generally  accepted  them,  and  it  is  indeed  suqirising,  consitloring 
their  variety,  their  liability  to  counterfeit,  and  their  general  lack  of 


196 


PRINCIl'LKS  ()¥  MONKY  AND  H.WKIXd 


security,  how  liLlle  rtvil  diflicully  was  experienced  in  j^elling  them  to 
circulate  in  Heu  of  cash, 

SAMPLES   OF   CLEARING-HOUSE   CURRENCY 


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ag 

VI 

THE  REGULATION  OF  BANKING 

Introduction 

Banking  was  one  of  the  first  forms  of  business  to  be  subjected  to 
government  regulation.  Because  of  the  almost  universal  demand  for 
the  accomodations  which  banking  affords  and  because  of  the  tremen- 
dous power  that  is  inherent  in  the  control  of  loanable  funds,  the 
business  has  long  been  regarded  as  quasi-public  in  its  nature.  Indeed, 
there  are  many  who  hold  that  all  banking  should  actually  be  con- 
ducted by  the  government  itself;  that  to  permit  private  interests  to 
control  the  supply  of  bank  currency  and  credit  is  to  foster  one  of  the 
most  vicious  of  monopolies.  But  while  it  has  long  been  recognized 
that  banking  is  a  public-service  calling,  we  have  not  yet  completely 
abolished  private  banking;  for  in  many  states  it  is  still  possible  for 
individuals  to  engage  in  a  general  banking  business  subject  to  no 
regulation  whatever.  The  numerous  disastrous  failures  of  such  insti- 
tutions in  recent  years,  however,  have  fortunately  developed  an 
agitation  against  them  which  promises  to  result  in  their  complete 
elimination  from  our  banking  system.  Many  of  the  large  investment 
banking  institutions  are  also  unchartered  and  largely  unregulated; 
but  since  they  are  for  the  most  part  controlled  by  men  of  large  finan- 
cial experience,  and  since  they  deal  chiefly  with  other  large  financial 
interests,  these  private  institutions  do  not  present  the  same  problems 
as  do  those  which  are  designed  to  serve  the  public  by  means  of  a 
general  banking  business.  The  problems  that  arise  in  connection 
with  the  private  investment  banks  are  related  to  the  possible  misuse 
of  the  great  power  they  wield  through  the  control  of  the  resources 
of  capital. 

A  second  reason  for  government  supervision  of  banking  is  that  it 
is  necessary  for  the  control  of  the  system  as  a  whole  in  its  relation  to 
the  entire  economic  structure  of  society.  As  has  been  indicated  in  the 
preceding  chapter,  individual  banks  cannot  escape  relations  with  other 
banks,  their  own  prosperity  and  safety  being  fundamentally  linked 
with  that  of  the  system  as  a  whole;  and  as  a  consequence  the  banks 
themselves  have  been  forced,  in  the  absence  of  adequate  government 

197 


lyb  I'RlNCll'LKS  OF  MONEY  AND  BANKING 

regulation,  to  develop  machinery  for  controlling  themselves  as  a  sys- 
tem. At  certain  points,  however,  and  at  certain  times,  as  has  been 
noted,  these  voluntary  associations  have  proved  inadequate  to 
the  requirements  of  the  situation.  The  government  has  therefore 
been  looked  to  for  the  direction  and  control  of  banking — in  the  inter- 
ests of  the  banks  themselves  and  through  them  of  the  entire  economic 
system. 

Governmental  supervision  of  banks  has  assumed  various  forms. 
In  addition  to  requiring  banks  to  incorporate,  and  thereby  to  con- 
form with  certain  general  provisions  with  reference  to  organization, 
the  government  has  laid  down  numerous  regulations  pertaining  to  the 
character  and  extent  of  loans  and  the  amount  and  nature  of  the 
reserve  that  must  be  held  against  deposits.  Both  national  and  state 
governments  have  developed  regulations  along  these  lines,  and  in  the 
main  they  have  based  them  on  principles  that  have  been  developed 
out  of  many  years  of  actual  banking  experience. 

The  most  important  feature  of  government  regulation  of  banking, 
however,  has  been  in  connection  with  the  issue  function.  While 
deposits  have  gone  largely  unregulated,  bank  notes  have  from  the 
very  beginning  of  our  banking  history  been  subject  to  numerous 
regulations.  This  special  attention  to  the  issue  function  is  due  in 
part  to  the  fact  that  it  was  long  the  primary  form  in  which  bank 
obligations  were  manifested,  in  part  to  the  fact  that  bank  notes  pass 
from  hand  to  hand  without  regard  to  the  character  of  those  who 
hold  them  and  thereby  form  a  part  of  the  money  supply  of  the  country 
quite  as  much  as  do  gold  and  silver  or  government  paper,  and  in 
part  to  the  fact  that  we  must  look  to  the  notes  to  give  flexibility  to 
the  currency  system  as  a  whole. 

The  regulation  of  note  issues  has  taken  many  forms,  and  the 
discussions  of  the  principles  underlying  bank  currency  have  been  as 
vigorous  and  prolonged  as  the  controversy  over  bimetallism.  There 
are  two  fundamental  problems  in  connection  with  the  regulation  of 
bank  notes:  that  of  making  them  safe  and  that  of  making  them  elas- 
tic, that  is,  responsive  to  the  varying  requirements  of  trade.  Until 
the  Civil  War  we  had  no  national  system  of  banking,  and  as  a  whole 
our  bank  currency  was  in  a  chaotic  condition,  lacking  safety,  uni- 
formity, and  elasticity.  Here  and  there  sound  banking  principles 
were  being  developed:  in  numerous  instances  bank  notes  were 
reasonably  secure;  in  some  sections  of  the  country  there  was  devel- 
oped more  or  less   uniformity;    and  now  and   then   a  measure  of 


THE  REGULATION  OF  BANKING  199 

elasticity  was  found.    But  on  the  whole  the  situation  could  hardly 
have  been  worse. 

The  national  banking  system  made  a  great  step  in  advance  when 
it  eliminated  all  state  bank  issues  and  gave  us  a  safe  and  uniform 
national  currency  based  on  the  deposit  of  government  bonds  in  the 
federal  Treasury.  But  this  system  of  bond-secured  notes  did  not 
provide  for  an  elastic  medium  of  exchange;  and  since  we  depend  upon 
bank  notes  to  furnish  us  virtually  all  the  elasticity  we  have  in  our 
monetary  system  (aside  from  deposit  currency),  one  of  our  most 
serious  banking  problems  has  remained  for  solution  until  the  present 
day.  It  is  believed,  however,  that  the  federal  reserve  system  has 
solved  the  problem  of  an  elastic  currency. 


A.     Governmental  Supervision 

96.     INCORPORATION' 
By  WILLIAM  A.   SCOTT 

It  is  generally  admitted  nowadays  that  no  one  ought  to  be  per- 
mitted to  engage  in  the  banking  business  without  special  authority 
from  the  state.  The  reason  for  this  is  the  need,  in  the  interests  of 
safety,  of  the  public  regulation  and  supervision  of  this  business. 
Experience  has  shown  that  this  can  best  be  secured  by  the  require- 
ment of  incorporation  through  special  charter  or  in  accordance  with 
general  laws,  such  charters  or  laws  prescribing  the  conditions  under 
which  the  business  must  be  carried  on.  Without  incorporation  it  is 
difficult,  if  not  impossible,  to  separate  banking  from  other  lines,  and 
consequently  to  know  precisely  who  are  engaged  in  it  and  how  it  is 
being  conducted.  Under  such  conditions  certain  persons  are  sure  to 
escape  the  regulations  prescribed  by  law  and  designed  for  tli£  safe- 
guarding of  the  public. 

As  between  incorporation  by  special  charter  or  under  general 
laws,  practice  in  the  past  has  varied  widely,  but  general  banking  laws 
are  fast  becoming  the  rule  the  world  over.  They  prevent  favoritism 
and  secure  uniformity.  Only  in  the  cases  of  highly  specialized  insti- 
tutions of  peculiar  character,  like  the  great  central  banks  of  Europe, 
is  the  special-charter  method  of  incorporation  likely  to  survive.  The 
diilerentiation  of  the  banking  from  the  general  incorporation  laws 
of  a  state,   that  is,  those  applicable  to  other  kinds  of  industrial 

'  Adapted  from  Money  and  Banking,  pp.  131-32-    (Henry  Holt  &  Co.,  1910.) 


200  PRINCII'LKS  OF  MONEY  ANI>  HANKING 

corporations,  is  also  desirable  on  account  of  the  peculiarities  and 
public  importance  of  this  business.  Such  diflerentiation  is  rapidly 
becoming  the  rule  in  this  country. 

The  need  of  incorporation  applies  to  savings  banks  and  trust 
companies  quite  as  much  as  to  commercial  banks.  Incorporation 
may  be  either  under  state  or  national  law. 

97.    ADOPTION  OF  THE  SYSTEM  OF  FREE  BANKING^ 
By  HORACE  WHITE 

The  system  of  free  banking,  or  incorporation  under  the  provisions 
of  a  general  law,  had  its  origin  in  the  State  of  New  York  in  1838, 
although  the  State  of  Michigan  had  something  resembling  it  a  year 
earlier.  Prior  to  that  time  bank  charters  in  New  York  were  a  part  of 
the  spoils  system  of  politics.  Accustomed  as  we  are  to  the  spoils 
system  of  today,  it  nevertheless  sounds  oddly  to  read  that  bank 
charters  were  granted  by  Whig  and  Democratic  legislatures  only  to 
their  own  partisans.  Not  only  was  this  the  common  practice,  but 
the  shares  in  banks,  or  the  rights  to  subscribe  to  them,  were  parceled 
out  by  political  "bosses"  in  the  several  counties.  Of  course,  cor- 
ruption flourished  in  such  soil.  The  people  became  exasperated  by 
the  indecencies  witnessed  at  Albany.  A  reaction  in  favor  of  equal 
rights  was  the  natural  consequence,  and  out  of  this  came  the  Free- 
Banking  Law  of  1838.  Under  this  law  the  Comptroller  was  authorized 
to  issue  circulating  notes  to  any  association  organizing  itself  as  a 
bank  and  depositing  stocks  of  the  United  States,  or  any  State,  or 
bonds  secured  by  mortgage  on  real  estate  of  a  certain  specified  grade. 
The  system  had  a  bad  start.  Within  five  years  after  the  law  was 
passed  twenty-nine  banks  that  had  organized  under  it  failed,  and  the 
deposited  securities  realized  only  seventy-four  cents  on  the  dollar  of 
the  outstanding  notes.  This  led  to  changes  in  the  law  by  which  all 
State  bonds  were  ruled  out  except  those  of  New  York,  and  the  mort- 
gage securities  were  keyed  up  to  a  high  pitch,  but  still  not  high  enough. 

The  free-banking  system  made  Uttle  headway  in  other  eastern 
states,  but  it  was  quite  generally  adopted  in  the  West  during  the 
decade  just  preceding  the  Civil  War.  While  the  early  experience 
under  free  banking  was  generally  disastrous,  the  fault  lay,  not  in 
the  general  incorporation  law,  but  in  the  inadequate  regulation  of 
the  conditions  under  which  banks  thus  organized  were  operated.* 

'  Adapted  from  "National  and  State  Banks,"  Sound  Currency  (1894-95), H,  7-8. 
^Eor  other  features  of  the  free-banking  system,  see  selection  No.  121. — Editor. 


THE  REGULATION  OF  BANKING  20l 

98.    THE  KIRBY  PRUATE  BANK  FAILURE* 

The  Kirby  Savings  Bank,  at  5019  South  Ashland  Ave.,  was  closed 
when  its  proprietor,  Dr.  William  P.  Kirby,  was  adjudged  insane  by 
the  county  court.  The  assets  discovered  amounted  to  SS56,  of  which 
$206  is  cash;  liabiUties  totaled  $150,000.  Possession  of  the  defunct 
bank  was  effected  by  the  receiver  only  with  the  assistance  of  the  police, 
a  woman  reported  to  be  the  owner  of  the  building  endeavoring  to 
prevent  its  seizure  by  means  of  a  double-barreled  shotgun.  The 
cashier  of  that  bank,  who  is  a  relative  of  Dr.  Kirby,  is  but  seventeen 
years  old.  He  was  arrested  on  a  charge  of  passing  a  worthless  check 
for  $1,000,  as  agent  for  Dr.  Kirby. 

The  Kirby  Savings  Bank  was  a  private  institution.  It  was 
conducted  by  a  physician,  who  may  or  may  not  have  had  some  knowl- 
edge of  banking  methods.  Regardless  of  his  fitness  or  unfitness  to 
run  a  bank,  he  was  free  to  put  up  a  sign  and  in\'ite  deposits,  no  super- 
vision or  inspection  of  any  kind  being  apphed  to  the  concern  by  the 
pubUc  authorities. 

99.    THE  POSITION  OF  PRIVATE  BANK  DEPOSITORS' 

A  private  banker  never  having  become  incorporated  or  subjected 
to  supervision  or  control  of  either  the  national,  state,  or  municipal 
government  occupies  exactly  the  same  position  in  the  eyes  of  the 
law  as  does  a  private  citizen.  The  assets  and  liabilities  of  his  busi- 
ness are  a  part  of  his  personal  estate  and  are  included  with  those  of 
his  private  ventures.  Consequently  when  he  dies  the  debts  of  not 
only  his  banking  business,  but  of  all  of  his  private  enterprises  as  well, 
are  liens  against  his  estate,  which,  like  that  of  any  other  individual, 
must  go  through  the  probate  court  for  settlement.  The  depositors 
of  the  bank  share  pro  rata  with  the  other  creditors  of  the  estate,  for 
it  has  been  held  by  the  courts  that  the  relation  existing  between  a 
bank  and  a  depositor  is  simply  that  of  debtor  and  creditor,  which  does 
not  entitle  the  latter  to  a  preference  in  the  distribution  of  the  assets. 

While  the  banking  business  conducted  by  a  private  indivi:iual 
may  be  perfectly  solvent,  the  liabilities  of  his  other  private  ventures 
may  be  of  such  magnitude  as  to  render  his  estate  as  a  whole  insolvent. 
In  other  words,  the  depositors  in  his  bank  are  obliged  to  stand  the 
losses  suffered  by  him  in  businesses  absolutely  foreign  to  that  of  bank- 
ing.   Onl}-  the  other  day  we  read  of  a  saloonkeeper  who  died  while 

'Quoted  from  the  Chicago  Banker,  November  9,  1912,  p.  15- 

'  From  an  editorial  in  the  Chicago  Banker,  December  2r.  1Q12,  pp.  16-17. 


202  PRINCIPLES  OF  MONEY  AND  BANKING 

running  a  private  bank  as  a  side  line;  he  also  conflucted  a  barber 
shop  and  a  steamship  agency.  If  any  of  these  prove  to  be  a  failure, 
it  is  more  than  probable  that  the  depositors  will  be  very  much  dis- 
appointed when  the  estate  is  wound  up.  The  same  situation  would 
prevail  should  the  insolvent  decide  to  avail  himself  of  the  emergency 
defense  of  insanity. 

One  does  not  have  much  sympathy  for  educated  people  so  careless 
as  to  place  their  funds  in  unstable  banking  institutions;  he  cannot, 
however,  help  but  feel  for  the  ignorant  foreigners  who  have  come  to 
this  "land  of  promise"  with  the  hope  and  expectation  of  accumulating 
a  little  something  as  a  provision  for  the  proverbial  "rainy  day."  To 
them  the  word  "bank"  has  a  certain  trust-inspiring  significance, 
creating  a  feeling  of  the  utmost  faith  and  confidence.  They  do  not 
know  that  there  is  any  distinction  between  state,  national,  or  private 
banks;  they  place  all  banks  in  one  class — as  a  place  where  they  can 
deposit  their  savings  and  withdraw  them  any  time  they  so  desire. 
They  do  not  know  anything  about  the  probate  court  nor  of  other 
creditors.  Is  it  any  wonder,  then,  that  they  sometimes  resort  to 
attempted  acts  of  violence  when  the  savings  gleaned  as  a  result  of 
years  of  toil  are  denied  them  ? 

The  argument  has  been  advanced  on  behalf  of  the  private  bankers 
opposing  supervision  in  Illinois  that  because  conditions  are  "rotten" 
in  Chicago  it  does  not  necessarily  follow  that  they  are  in  the  rest  of 
the  state — all  of  which  will  be  conceded;  but  why  should  a  private 
banker  on  a  perfectly  solvent  basis  and  who  is  conducting  his  business 
honestly  oppose  an  opportunity  to  show  to  his  cUents  the  exact  status 
of  his  bank  and  the  manner  in  which  the  money  of  its  depositors 
is  being  used,  thereby  taking  them  into  his  confidence  ?  The  answer  is 
that  he  doesn't.  It  is  the  crafty,  hard-hearted,  dishonest  man  who  is 
willing  to  allow  a  lot  of  simple,  uneducated  people  to  contribute  to 
his  support  with  money  earned  by  the  sweat  of  their  brows,  while 
he  in  return  gives  them  nothing  but  the  "honor  and  prestige"  of 
being  depositors  of  his  "bank."  There  is  a  vast  difference,  too, 
between  "personal"  and  bank  taxes. 

loo.    THE  NATURE  OF  GOVERNMENT  SUPERVISION  OF 
NATIONAL  BANKS 

"There  shall  be  established  in  the  Treasury  Department  a  separate 
Bureau,  which  shall  be  charged  with  the  execution  of  all  laws  passed  by 
Congress  relating  to  the  issue  and  regulation  of  national  currency  secured 


THE  REGULATION  OF  BANKING  203 

by  United  States  bonds  and,  under  the  general  supervision  of  the  Federal 
Reserve  Board,  of  all  Federal  Reserve  notes,  the  chief  ofTicer  of  which 
Bureau  shall  be  called  the  Comptroller  of  the  Currency  and  shall  perform 
his  duties  under  the  general  directions  of  the  Secretary  of  the  Treasur)-." 
(National  Bank  Act  of  June  3,  1864,  as  amended  by  the  P^ederal  Reserve 
Act  of  December  23,  1915.) 

"The  Comptroller  of  the  Currency,  with  the  approval  of  the  Secretary 
of  the  Treasury,  shall  appoint  examiners  who  shall  examine  every  member 
bank  at  least  twice  each  calendar  year  and  oftener  if  considered  necessary. 
The  examiner  making  the  examination  of  any  national  bank,  or  of  any 
other  member  bank,  shall  have  power  to  make  a  thorough  examination  of 
all  the  affairs  of  the  bank  and  in  doing  so  he  shall  have  power  to  administer 
oaths  and  to  examine  any  of  the  officers  and  agents  thereof  under  oath." 
(Federal  Reserve  Act,  December  23,  1913.) 

"It  is  the  duty  of  the  Comptroller  to  make  an  annual  ref)ort  to  Congress, 
giving  a  summary  of  the  condition  of  every  national  bank  together  with 
such  special  information  as  may  be  regarded  of  imp)ortance,  whether  in 
connection  with  national  or  state  banks."  (National  Bank  Act  of  June  3, 
1864.) 

"Every  association  shall  make  to  the  Comptroller  of  the  Currency  not 
less  than  five  reports  during  each  and  every  year,  ....  which  reports  shall 
exhibit,  in  detail  and  under  appropriate  heads,  the  resources  and  liabilities 
of  the  association  at  the  close  of  business  on  any  past  day  to  be  by  him 
specified,  and  shall  transmit  such  reports  to  the  Comptroller  within  five 
days  after  the  receipt  of  a  request  or  requisition  therefor  from  him.  And 
the  Comptroller  shall  have  power  to  call  for  special  reports  from  any  par- 
ticular association  whenever  in  his  judgment  the  same  shall  be  necessary. 
Any  association  failing  to  make  and  transmit  any  such  report  shall  be 
subject  to  a  penalty  of  one  hundred  dollars  for  each  day  after  five  days 
that  such  bank  shall  delay  to  make  and  transmit  any  report."  (National 
Bank  Act,  as  amended  March  3,  1869.) 

"A  Federal  Reserve  Board  is  hereby  created  which  shall  consist  of  seven 
members,  including  the  Secretary  of  the  Treasury  and  the  Comptroller  of 
the  Currency,  who  shall  be  members  ex  officio,  and  five  members  appointed 
by  the  President  of  the  United  States  by  and  with  the  advice  and  consent 
of  the  Senate."    (Federal  Reserve  Act,  December  23,  1913.) 

The  Federal  Reserve  Board  has  very  broad  powers,  the  chief  of 
which  are  as  follows: 

a)  To  examine  at  its  discretion  the  accounts,  books,  and  affairs  of  each 
Federal  reserve  bank  and  of  each  member  bank  and  to  require  such  state- 
ments and  reports  as  it  may  deem  necessary.  The  said  board  shall  publish 
once  each  week  a  statement  showing  the  condition  of  each  Federal  reserve 
bank  and  a  consolidated  statement  for  all  Federal  reserve  banks. 


204  PRINCIPLKS  OF  MONEY  AND  BANKING 

b)  To  permit,  or,  on  the  affirmative  vote  of  at  least  five  members  of  the 
Reserve  Board,  to  require  Federal  reserve  banks  to  rediscount  the  dis- 
counted paper  of  other  Federal  reserve  banks  at  rates  of  interest  to  be 
determined  by  the  Federal  Reserve  Board. 

c)  To  suspend  for  a  certain  limited  period  any  reserve  requirements 
specified  in  this  Act:  Provided,  That  it  shall  establish  a  graduated  tax 
upon  the  amounts  by  which  the  reserve  requirements  of  the  Act  may  be 
permitted  to  fall  below  the  level  specified. 

d)  To  regulate  through  the  Bureau  under  the  charge  of  the  Comp- 
troller of  the  Currency  the  issue  and  retirement  of  Federal  reserve  notes. 

e)  To  exercise  general  supervision  over  said  Federal  reserve  banks. 
(Adapted  from  Federal  Reserve  Act,  December  23,  1913.)' 

loi.    THE  MENACE  IN  GOVERNMENT  CONTROL  OF  BANKING^ 
By  ELMER  H.  YOUNGMAN 

The  banking  bill  introduced  in  the  Senate  on  June  26,  1913,  is 
in  my  judgment  one  of  the  most  dangerous  and  unsound  measures 
ever  introduced  in  the  American  Congress. 

It  virtually  proposes  to  concentrate  fifteen  or  twenty  billions  of 
banking  credit  under  the  control  of  a  Federal  Reserve  Board,  thus 
making  possible  what  is  now  impossible  under  our  system  of  numerous 
small  banks  with  their  system  of  ownership  and  management  widely 
scattered,  namely,  the  complete  domination  of  credit  by  pohtical 
bosses  or  by  the  financial  powers  to  whom  such  bosses  are  subservient. 

What  a  rich  prize  that  would  be  as  a  bone  of  contention  between 
rival  political  bosses  and  rival  financial  interests — the  power  to  con- 
trol credit  and  fix  the  rate  of  discount  in  every  corner  of  the  country. 
Outside  the  Russian  Empire,  where  the  Imperial  Bank  is  a  department 
of  the  State  Treasury,  no  such  politico-financial  despotism  exists. 

This  country  does  not  need  and  will  not  tolerate  a  central  bank 
(even  if  called  a  National  Reserve  Association)  dominated  by  big 
bankers  and  those  whom  they  control. 

Nor  does  it  need  nor  will  it  tolerate  a  political  bank  (even  if  called 
a  Federal  Reserve  Board)  controlled  by  the  ruUng  poUtical  party. 

The  founders  of  this  Government  sought  to  avoid  placing  the 
purse  and  the  sword  in  the  same  hands.  The  Secretary  of  the  Treas- 
ury and  the  Comptroller  of  the  Treasury  make  their  reports  to  the 
Speaker  of  the  House  of  Representatives,  not  to  the  President.    But 

'  For  full  treatment  of  Federal  Reserve  System  see  chapter  vii. 
'  Adapted  from  an  editorial  in  the  Bankers'  Magazine,  (New  York,  LXXXVII, 
1915),  138-40. 


THE  REGULATION  OF  B.\NKING  205 

here  is  a  proposal  to  place  in  the  hands  of  the  President  the  power  to 
give  or  to  withhold  credit,  w^hich  has  been  aptly  defined  as  the  life- 
blood  of  commerce. 

Such  a  power  is  too  great  to  be  placed  in  the  hands  of  any  man, 
and  its  exercise  by  him,  even  through  his  appointees,  might  become  a 
source  of  grave  danger. 

Neither  should  this  power  be  entrusted  to  a  central  bank  (or 
National  Reserve  Association,  so-called)  nor  to  any  other  board  of 
any  kind  whatsoever  and  howsoever  composed;  for  no  board — who- 
ever its  members  may  be-  can  sit  at  Washington  or  any  other  place 
and  determine  justly  or  accurately  the  amount  of  credit,  the  kind  of 
credit,  or  the  rate  that  should  be  paid  for  such  credit. 

Nor  can  these  matters  possibly  be  determined  by  Congress,  nor 
by  any  department  of  the  Government. 

The  only  one  who  has  sure  knowledge  of  the  needs  of  currency 
and  credit  is  the  man  or  the  community  that  w-ants  it. 

The  only  sure  means  of  testing  the  demand  for  currency  and 
credit  is  the  bank,  which  has  its  finger  on  the  business  pulse  of 
individuals  and  the  community.  Banks  are  the  scales  that  weigh  the 
credit  of  communities  and  individuals,  and  are  therefore  the  onl\- 
instruments  that  can  properly  gauge  and  supply  the  demand  for 
credit  and  currency. 

When  I  take  my  note  to  a  bank,  and  lay  it  down,  I  buy  credit 
from  the  bank,  just  as  when  I  go  to  the  fish-dealer  and  lay  down  my 
money  I  buy  fish.  For  the  bank  to  dictate  to  me  (and  whether  this 
is  done  by  the  Government,  a  board,  or  any  other  agency  whatever, 
it  comes  to  the  same  thing)  what  I  should  get  in  exchange  for  my 
note — that  is,  the  kind  of  credit  or  money  I  should  have,  whether 
bank  notes,  coin,  paper  certificates,  or  checks-^would  be  just  as  imper- 
tinent as  for  the  fish-dealer  to  try  to  give  me  codfish  when  I  asked  for 
mackerel. 

Whether  I  shall  obtain  credit  at  all  is  a  matter  between  me  and 
my  banker,  because  he  is  the  only  man  in  the  community  wh<>  has 
the  machinery  for  testing  my  ability  to  pay. 

What  kind  of  credit  (or  currency)  I  shall  swap  my  own  credit 
for,  that  is  my  affair  purely. 

All  that  the  Government  ought  to  do  is  to  see  that  the  notes  are 
properly  engraved  so  as  to  render  counterfeiting  dilVicult,  and  to  see 
that  the  banks  provide  the  coin  and  tin-  ni.u  liiiurv  for  promptly 
paying  their  notes. 


2o6  PRINCIPLES  or  MONEY  AND  BANKING 

The  power  to  determine  the  amount  and  kind  and  rate  of  credit 
is  one  which  no  community  should  yield  up  to  outside  domination. 
President  Wilson's  proposal  to  set  credit  free  is  really  a  proposal  to 
enslave  it — to  take  it  away  from  twenty-five  thousand  banks,  with 
their  many  thousand  shareholders,  their  millions  of  depositors,  and 
their  thousands  of  officers,  each  in  touch  with  local  conditions,  vitally 
interested  in  local  prosperity,  and  in  close  personal  touch  and  sym- 
pathy with  those  who  deal  with  the  banks,  and  to  place  this  power 
in  the  hands  of  a  poHtical  board  at  Washington. 

I02.    GOVERNMENT  VERSUS  PRIVATE   CONTROL^ 

The  opposition  of  the  bankers  to  the  Administration  Currency 
Bill  is  the  old  cry  against  government  regulation  which  the  railways 
made  ten  years  ago,  when  the  Hepburn  Rate  Bill  was  passed. 

The  bill  provides  that  general  control  of  the  entire  national  bank 
system  shall  be  in  the  hands  of  seven  men,  three  of  the  seven  being 
the  Secretary  of  the  Treasury,  the  Comptroller  of  the  Currency,  and 
the  Secretary  of  Agriculture.  The  other  four  members  are  to  be 
chosen  by  the  President  of  the  United  States,  with  the  advice  and 
consent  of  the  Senate.  It  is  mandatory  upon  the  President  that  at 
least  one  of  his  four  appointees  shall  be  an  experienced  banker. 

Here,  then,  is  the  whole  trouble.  The  case  is  that  of  private 
control  versus  Government  control.  To  ask  that  the  bankers  shall 
select  the  Federal  Reserve  Board  is  like  asking  that  the  railways 
shall  choose  the  Interstate  Commerce  Commission.  It  is  perhaps 
not  unnatural  that  the  bankers  should  be  reluctant  to  let  the  control 
pass  out  of  their  hands;  but  is  it  quite  fair  for  them  to  claim  that 
what  is  proposed  is  to  substitute  "political  control"  for  business 
control  ? 

If  the  Federal  Reserve  Board,  appointed  by  the  President,  with 
the  advice  and  consent  of  the  Senate,  is  "pohtical,"  then  the  Inter- 
state Commerce  Commission  is  "pohtical"  and  the  Supreme  Court  is 
"poUtical." 

If  the  American  people  can  trust  the  President  to  choose  their 
Supreme  Court  for  them,  the  bankers  can  certainly  trust  him  to 
choose  the  Federal  Reserve  Board.  A  President  who  would  prosti- 
tute the  Federal  Reserve  Board  to  his  own  base  political  and  partisan 
advantage  would  endeavor  to  so  prostitute  the  Supreme  Court  and 
would  deserve  to  be  impeached. 

'Adapted  from  an  editorial  in  the  Outlook,  CIV  (1913),  794-95- 


THE  REGULATION  OF  BANKING  207 

No  political,  social,  financial,  or  industrial  system  was  ever  devised 
without  its  most  important  element  being  confidence  in  human  honor. 
If  the  American  system  ever  reaches  a  point  where  the  President 
cannot  be  trusted,  in  the  full  light  of  publicity  and  with  the  super- 
vision of  the  United  States  Senate,  to  appoint  our  Federal  judges,  our 
interstate  commerce  commissioners,  and  our  bank  supervisors,  it  will 
be  time  to  abandon  that  system  and  to  adopt  some  form  of  benevolent 
despotism. 

B.     Regulation  of  National  Bank  Operations 
103.     CAPITAL,  SURPLUS,  .VXD  SILVREHOLDKRS'  LLVBILITY 

No  association  shall  be  organized  within  a  city  the  population  of  which 
exceeds  fifty  thousand  persons  with  a  capital  of  less  than  $200,000.  In 
cities  having  less  than  fifty  thousand  and  more  than  sue  thousand  inhabit- 
ants the  capital  must  be  at  least  $100,000.  In  any  place  with  a  population 
of  not  more  than  six  thousand  the  capital  may  be  only  $50,000.  In  any 
place  the  population  of  which  does  not  exceed  three  thousand,  banks  may 
be  organized  with  a  capital  of  only  $25,000.  (Adapted  from  National 
Bank  Act  as  amended  March  14,  1900.) 

"Each  association  shall,  before  the  declaration  of  a  [semiannual] 
dividend  carry  one-tenth  part  of  its  net  profits  of  the  preceding  half-year 
to  its  surplus  fund  until  the  same  shall  amount  to  twenty  per  centum  of 
its  capital  stock."    (National  Bank  Act,  June  3,  1864.) 

"The  stockholders  of  every  national  banking  association  shall  be  held 
individually  responsible  for  all  contracts,  debts,  and  engagements  of  such 
association  each  to  the  amount  of  his  stock  therein,  at  the  par  value  thereof 
in  addition  to  the  amount  invested  in  such  stock." 

"No  Federal  Reserve  Bank  shall  commence  business  with  a  capital 
stock  of  less  than  $4,000,000.  .  The  stockholders  [the  member  banks] 
shall  be  entitled  to  receive  an  annual  dividend  of  six  per  cenluni  on  the 
paid-in  capital  stock,  which  dividend  shall  be  cumulative.  After  the  afore- 
said dividend  claims  have  been  fully  met,  all  the  net  earnings  shall  be  paid 
to  the  United  States  as  a  franchise  tax,  except  that  one-half  of  such  net 
earnings  shall  be  paid  into  a  surplus  fund  until  it  shall  amount  to  forty 
per  centum  of  the  paid-in  capital  stock  of  such  bank."  (Federal  Reserve 
Act,  December  23,  1913.) 

104.    RKSERVE  REQUIREMENTS 

For  the  purpose  of  the  regulation  of  reserves  the  national  banks 
are  divided  into  the  following  classes:  (i)  Banks  in  Central  Reserve 
Cities — New  York,  Chicago,  and  St.  Louis;    (2)  Banks  in  Reserve 


2o8  PRINCIPLES  OF  MONKY  AND  BANKING 

Cities — aljout  fifty  of  the  larger  cities  of  the  country;  (3)  Country 
Banks — that  is,  in  the  remaining  cities  and  towns.  Each  class  has 
separate  reserve  requirements  as  follows: 

1.  "A  bank  in  a  central  reserve  city  shall  hold  and  maintain  a  reserve 
equal  to  eighteen  per  centum  of  the  aggregate  amount  of  its  demand 
deposits,  that  is,  deposits  payable  on  less  than  30  days'  notice,  and  five 
per  centum  of  its  time  deposits,  in  its  vaults  6/18  thereof,  in  the  Federal 
reserve  bank  7/18,  the  balance  of  said  reserve  shall  be  held  in  its  own  vaults 
or  in  the  Federal  reserve  bank,  at  its  option." 

2.  "A  bank  in  a  reserve  city  shall  hold  and  maintain  reserves  equal 
to  fifteen  per  centum  of  the  aggregate  amount  of  its  demand  deposits  and 
five  per  centum  of  its  time  deposits."  Five-fifteenths  of  the  reserve  must 
be  in  each  bank's  own  vaults,  6/15  in  the  vaults  of  the  Federal  reserve 
bank.    The  other  4/15  may  be  held  in  either  place  or  in  both. 

3.  "A  bank  not  in  a  reserve  or  central  reserve  city  shall  hold  and 
maintain  reserves  equal  to  twelve  per  centum  of  the  aggregate  amount  of 
its  demand  deposits,  and  five  per  centum  of  its  time  deposits."  Four- 
twelfths  of  the  reserve  must  be  in  each  bank's  own  vaults,  5/12  in  the  vault 
of  the  Federal  reserve  bank.  The  other  3/12  may  be  held  in  either  place 
or  in  both. 

The  former  reserve  requirements  for  national  banks  were:  (a)  for 
banks  in  central  reserve  cities  25  per  cent;  (b)  for  banks  in  reserve  cities 
25  per  cent,  of  which  1/2  might  be  deposited  in  central  reserve  city  national 
banks;  (c)  for  country  banks  15  per  cent,  of  which  3/5  might  be  deposited 
in  reserve  city  and  central  reserve  city  national  banks. 

"In  estimating  the  reserves  required  by  the  Federal  Reserve  Act,  the 
net  balance  of  amounts  due  to  and  from  other  banks  shall  be  taken  as  the 
basis  for  computation.  To  this  amount  should  be  added  the  individual 
demand  deposits.  Balances  in  reserve  banks  due  to  member  banks  shall 
be  counted  as  reserves." 

"Whenever  any  bank  has  less  than  the  minimum  reserve  required  by 
law,  it  shall  not  increase  its  liabilities  by  making  any  new  loans  or  discounts 
otherwise  than  by  discounting  or  purchasing  bills  of  exchange  payable  at 
sight,  nor  make  any  dividend  of  its  profits  until  the  required  reserve  has 
been  restored.  If  in  thirty  days  the  bank  does  not  make  good  its  reserve 
in  lawful  money  the  Comptroller  may,  with  the  concurrence  of  the  Secretary 
of  the  Treasury,  appoint  a  receiver  to  wind  up  the  business  of  the  associa- 
tion." 

The  Federal  Reserve  Board  is  empowered  "  to  suspend,  for  a  period 
not  exceeding  thirty  days,  and  from  time  to  time  to  renew  such  suspension 
for  periods  not  exceeding  fifteen  days,  any  reserve  requirements  specified 
in  this  Act:  Provided,  That  it  shall  estabhsh  a  graduated  tax  upon  the 
amount  by  which  the  reserve  requirements  of  this  Act  may  be  permitted 
to  fall  below  the  level  specified." 


THE  REGULATION  OF  BANKING  209 

105.    REASONS  FOR  LKGAL  REGULATION  OF  RESERVES' 
By  CPLVRLES  A.   CONANT 

The  requirement  that  a  bank  shall  keep  in  standard  money  a 
certain  fixed  proportion  of  its  note  issues  is  one  of  the  regulations 
of  banking  which  has  been  sanctioned  by  practical  experience.  It 
is  a  requirement  capable  of  justification  upon  grounds  of  public  policy. 
The  natural  tendency  of  banking,  even  where  there  is  no  intentional 
violation  of  sound  principles,  is  toward  the  reduction  of  cash  reserves 
to  the  lowest  limit.  This  is  a  natural  result  of  the  law  of  marginal 
utility  and  of  unrestricted  competition.  The  law  of  marginal  utility 
leads  the  community  as  well  as  the  banker  to  employ  paper  as  largely 
as  possible  as  a  medium  of  exchange  in  preference  to  coin,  because  of 
the  economy  in  the  amount  of  capital  required  and  in  transportation 
and  handling.  The  practical  determination  of  how  much  coin  shall 
be  retained  within  the  country  as  a  basis  of  security  for  notes  lies 
with  the  banker,  where  there  is  no  restriction  upon  denominations  of 
notes,  because  the  public  will  continuously  accept  notes  and  rely 
upon  the  banker  to  keep  a  sufficient  metallic  reserve.  The  necessity 
for  regulation  is  less  obvious  where  the  entire  volume  of  notes  is 
issued  by  a  single  great  bank  than  in  the  case  of  competing  banks, 
because  such  a  bank  is  not,  as  a  note  issuer  at  least,  subject  to  com- 
petition, and  its  accounts  attract  more  attention. 

Where  competition  enters  into  the  problem  between  banks  other- 
wise upon  equal  footing,  the  bank  which  runs  closest  to  the  danger 
line  in  respect  to  the  size  of  its  metallic  reserve,  without  actually 
impairing  public  confidence,  will  make  the  largest  profits.  The  tend- 
ency, therefore,  among  competing  banks  will  be  to  reduce  their 
metallic  reserves  within  narrower  and  narrower  limits,  until  thev  may 
fall  below  the  limits  of  safety.  This  is  the  natural  result  of  the  effort  to 
render  services  to  patrons  for  the  lowest  charges  and  earn  profits  for 
the  bank  by  keeping  at  the  minimum  the  amount  of  idle  capital 
invested  in  reserves.  The  rectitude  of  any  one  banker,  or  even  a 
combination  of  bankers,  will  not  guard  against  the  improper  reduc- 
tion of  reserves  under  the  stress  of  competition,  unless  such  a  com- 
bination is  strong  enough  to  discredit  the  more  reckless  bankers 
among  depositors  and  other  patrons.  The  chances  will  favor  the  less 
prudently  managed  banks,  because  of  their  facilities  for  reducing 
charges  for  their  services  and  attracting  patrons  until  the  bankers 

■Adapted  from  Principles  of  Money  and  Banking,  IT,  71-73-  (Copyright 
by  Harper  &  Brothers,  1905.) 


2IO  PRINCIPLES  OF  MONEY  ANiJ  BANKING 

of  greater  prudence  are  driven  from  business  by  the  fall  of  their  rate  of 
profit  below  the  normal  return  upon  capital. 

This  process  is  almost  certain  to  go  on  in  a  state  of  economic  free- 
dom, even  though  there  is  no  conscious  abandonment  of  sound  banking 
principles.  The  more  daring  banks,  especially  if  they  are  younger 
and  smaller  than  the  conservative  ones,  will  keep  only  the  reserve 
required  for  meeting  ordinary  demands,  and  will  rely  on  the  older 
and  more  prudent  banks  to  aid  them  with  their  stronger  reserves  in 
case  of  unexpected  demands.  This  will  be  still  more  the  case  if  the 
larger  banks  are  in  the  commercial  centers  and  constitute  the  natural 
support  of  the  smaller  banks.  Where  no  regulation  existed,  however, 
and  pre-eminently  where  no  one  bank  was  large  enough  to  feel  the 
responsibiUty  of  sustaining  the  credit  of  the  entire  banking  system, 
the  tendency  would  be  toward  reducing  the  reserves  of  even  the 
central  banks  to  the  minimum  of  safety  under  ordinary  conditions. 
Reserves  in  such  banks  would  be  larger  than  in  country  banks,  but 
not  adequate  to  meet  unusual  demands.  This  reduction  of  the  reserve 
to  the  danger  line  would,  moreover,  while  there  was  no  marked 
adverse  movement  of  the  precious  metals,  pass  unobserved  except 
by  a  few  students,  whose  warnings  would  attract  little  attention 
until  a  serious  emergency  arose. 

The  danger  of  such  gradual  impairment  of  the  reserves  would  be 
much  greater  when  there  was  no  minimum  limit  prescribed  by  law  or 
custom  than  if  such  limit  existed.  The  awakening  to  the  fact  that 
metallic  reserves  were  inadequate  to  sustain  business  and  credit 
would  finally  come  at  a  time  when  country  banks  had  reduced  their 
reserves  to  the  form  of  deposits  in  commercial  centers  and  the  banks 
in  the  commercial  centers  had  reduced  their  reserves  to  a  point  which 
permitted  the  extension  of  little  aid  to  their  country'  correspondents. 
At  such  a  moment  the  failure  of  a  few  country  banks  might  carry 
with  it  the  collapse  of  the  whole  banking  structure,  as  one  institution 
after  another  discovered  that  it  was  leaning  upon  a  broken  reed  in 
relying  upon  other  banks,  and  the  banking  and  business  community 
suddenly  had  revealed  to  them  in  a  flash  the  slender  foundation  upon 
which  credit  rested. 

io6.    RESTRICTIONS  ON  LOANS 

o)  It  shall  be  lawful  for  any  such  [banking]  association  to  purchase, 
hold,  and  convey  real  estate  as  follows: 

First.  Such  as  shall  be  necessary  for  its  immediate  accommodation 
in  the  transaction  of  its  business. 


THE  REGULATION  OF  BANKING  211 

Second.  Such  as  shall  be  mortgaged  to  it  in  good  faith  by  way  of 
security  for  debts  previously  contracted. 

Third.  Such  as  shall  be  conveyed  to  it  in  satisfaction  of  debts  previously 
contracted  in  the  course  of  its  dealings. 

Fourth.  Such  as  it  shall  purchase  at  sales  under  judgments,  decrees, 
or  mortgages  held  by  such  association,  or  shall  purchase  to  secure  debts 
due  to  said  association.    (National  Bank  Act,  June  3,  1864.) 

Such  associations  shall  not  hold  the  possession  of  any  real  estate 
under  mortgage,  or  hold  the  title  and  possession  of  any  real  estate  purchased 
to  secure  any  debts  due  to  it  for  a  longer  period  than  five  years.  (National 
Bank  Act,  June  3,  1864.) 

"Any  national  banking  association  not  situated  in  a  central  reserve 
city  may  make  loans  secured  by  improved  and  unencumbered  farm  land, 
situated  within  its  Federal  reserve  district,  but  no  such  loan  shall  be  made 
for  a  longer  time  than  five  years,  nor  for  an  amount  exceeding  fifty  per 
centum  of  the  actual  value  of  the  property  offered  as  security.  Any  such 
association  may  make  such  loans  in  an  aggregate  sum  equal  to  twenty-five 
per  centum  of  its  capital  and  surplus  or  to  one-third  of  its  time  deposits, 
and  such  banks  may  continue  hereafter  as  heretofore  to  receive  time 
deposits  and  to  pay  interest  on  the  same."  (Federal  Reserve  Act,  Decem- 
ber 23,  1913.) 

The  Federal  Reserve  Board  shall  have  power  from  time  to  time  to  add 
to  the  list  of  cities  in  which  national  banks  shall  not  be  permitted  to  make 
loans  secured  upon  real  estate  in  the  manner  described  in  this  section. 
(Federal  Reserve  Act,  December  23,  1913.) 

b)  To  one  person  or  corporation:  The  total  liabilities  to  any  association, 
of  any  person,  or  of  any  company,  corporation,  or  firm  for  money  borrowed, 
including,  in  the  liabilities  of  a  company  or  firm,  the  liabilities  of  the  several 
members  thereof,  shall  at  no  time  exceed  one-tenth  part  of  the  amount  of 
the  capital  stock  of  such  association  actually  paid  in  and  unimpaired  and 
one-tenth  part  of  the  unimpaired  surplus  fund,  provided  that  the  total  of 
such  liabilities  shall  in  no  event  exceed  thirty  per  centum  of  the  capital 
stock  of  the  association.  But  the  discount  of  bills  of  exchange  drawn  in 
good  faith  against  actually  existing  values,  and  the  discount  of  commercial 
or  business  paper  actually  owned  by  the  person  negotiating  the  same,  shall 
not  be  considered  as  money  borrowed.  (National  Bank  Act,  as  amended 
June  22,  1906.) 

c)  On  security  of  own  stock:  No  association  shall  make  any  loan  or 
discount  on  the  security  of  the  shares  of  its  own  capital  stock,  nor  be  the 
purchaser  or  holder  of  any  such  shares,  unless  such  security  or  purchase 
shall  be  necessary  to  prevent  loss  upon  a  debt  previously  contracted  in 
good  faith;  and  stock  so  purchased  or  acquired  shall,  within  six  months 
from  the  time  of  its  purchase,  be  sold  or  disposed  of  at  public  or  private 
sale;  or,  in  default  thereof,  a  receiver  may  be  appointed  to  close  up  the 
business.    (National  Bank  Act,  June  3,  1864.) 


212  PRINCIPLES  OF  MONEY  AND  BANKING 

107.    OBJECTIONS  TO  LOANS  ON  REAL  ESTATE' 

The  prohibition  against  loans  on  real  estate  is  a  feature  of  the 
National  Banking  Law  which  has  been  much  criticized  in  some  quar- 
ters; and  as  evidence  that  this  restriction  upon  the  powers  of  the 
national  banks  is  unreasonable  and  unnecessary,  it  is  urged  that 
real  estate  is  the  best  kind  of  security;  that  savings  banks,  trust 
companies,  and  insurance  companies  are  authorized  to  make  such 
loans;  and  why,  therefore,  should  not  the  national  banks  be  permitted 
to  do  the  same  ?  But,  by  the  great  majority  of  bankers,  the  restriction 
is  deemed  wise  and  salutary.  The  objection  to  real  estate  security  is 
not  to  its  sufficiency,  but  to  the  kind.  As  the  obUgations  of  the  banks 
are  largely  payable  on  demand,  it  is  necessary  that  the  securities 
it  holds  should  be  readily  convertible  into  money;  and  while  a  mort- 
gage upon  real  estate  may  be  good  security,  it  cannot  be  made  imme- 
diately available,  in  case  of  an  emergency.  Personal  securities  of 
the  kind  usually  taken  by  banks  can  be  quickly  assigned  and  promptly 
realized  upon;  but  the  transfer  of  any  interest  in  real  estate  is  always 
attended  with  more  or  less  delay.  It  has  not  infrequently  been  the 
case  that  banks  have  been  compelled  to  suspend  when  their  assets 
were  more  than  sufficient  to  pay  their  debts  simply  because  a  large 
portion  of  the  assets  were  real  estate  securities,  upon  which  it  was 
impossible  to  realize  at  the  proper  time.  In  the  case  of  insurance 
companies,  trust  companies,  savings  banks,  and  similar  corporations 
there  is  not  the  same  necessity  for  having  the  assets  in  a  convertible 
form,  but  it  is  rather  desirable  that  a  large  portion  of  the  investments 
shall  be  of  a  more  or  less  permanent  character;  and,  therefore,  real 
estate  loans  are  well  adapted  to  their  purpose. 

108.    ARGUMENT  FOR  LOANS  ON  REAL  ESTATE* 
By  O.   M.  W.  SPRAGUE 

For  banks  all  of  whose  obligations  are  payable  upon  demand  the 
real  estate  loan,  quite  regardless  of  its  safety,  is  wisely  considered 
unsuitable.  Such  loans  are  commonly  wanted  by  borrowers  for  a 
considerable  period  of  time,  and  therefore  they  cannot  readily  be 

'  Adapted  from  Digest  of  National  Banking  Lazvs,  p.  28.  (A.  S.  Pratt  &  Sons, 
1908). 

=  Adapted  from  "Proposals  for  Strengthening  the  National  Banking  System," 
Quarterly  Journal  of  Economics,  XXIV  (1909-10),  204-5. 


THE  REGXJLATION  OV  HAN  KIM.  213 

reduced  in  amount  even  by  an  individual  bank.  In  other  words,  they 
are  not  liquid.  But  the  importance  of  this  quality  in  all  its  assets 
disappears  when  a  bank  begins  to  acquire  time  or  savings  deposits 
as  well  as  those  payable  on  demand. 

Some  of  the  advantages  which  the  banks  would  derive  if  they 
were  able  to  lend  on  real  estate  are  so  evident  that  they  require 
little  more  than  mere  mention.  It  would  give  them  more  of  the  most 
profitable  kind  of  business,  that  which  has  its  origin  in  the  neighbor- 
hood of  the  bank.  The  immediate  return  is  generally  greater  than  can 
be  secured  from  the  employment  of  funds  in  the  money  centers  or  in 
the  purchase  of  paper  from  note  brokers.  Moreover,  in  fostering  the 
growth  of  wealth  and  population  in  its  locality  a  bank  is  laying  a 
soUd  foundation  for  the  future  expansion  of  its  own  business.  Finally, 
the  ability  to  lend  on  real  estate  will  often  enable  a  bank  to  secure 
valuable  customers  who  would  otherwise  go  elsewhere.  It  has  been 
the  unpleasant  experience  of  many  a  national  banker  to  be  obliged 
to  refuse  a  loan  to  a  would-be  borrower  who  has  nothing  but  real 
estate  to  offer  as  security  and  see  him  enter  a  neighboring  state  bank 
or  trust  company  where  there  was  no  legal  obstacle  to  the  transaction. 
Relations  once  established  are  pretty  certain  to  continue  even  after 
the  borrower  has  security  which  falls  within  the  provisions  of  the 
national  law. 

In  order  that  such  loans  may  be  made  with  safety,  however,  it 
is  necessary  to  establish  time  savings  departments,  segregating  the 
deposits, 

109.    CAUSES  OF  NATIONAL  BANK  FAILURES' 

Sixty  per  cent  of  the  failures  of  national  banks  were  caused 
by  violations  of  the  national  banking  laws;  23  per  cent  were  caused 
by  injudicious  banking;  13  per  cent  by  shrinkage  in  values  and  gen- 
eral stringency  in  the  money  market,  while  4  per  cent  resulted  from 
the  failure  of  large  debtors  and  other  minor  causes. 

Criminal  violations  of  law  caused  about  37  per  cent  of  the  failures, 
23  per  cent  being  caused  by  fraudulent  management,  7  per  cent  by 
defalcations,  and  7  per  cent  were  wTecked  by  tlie  cashier  or  other 
employee.  Excessive  loans  caused  20  per  cent  of  the  failures  and 
heavy  investments  in  real  estate  or  mortgages  about  3  per  cent. 

'  Adapted  from  Report  of  Comptroller  of  the  Currency,  191 1,  p.  27- 


214 


PRINCin.KS  OK  MONKY  AND  HANKING 


The  followini^  Uiblc  shows  tlic  number  and  percentage  of  insolvent 
national  banks  classified  according  to  causes  of  failure  from  1865  to 
October  31,  191 1: 


Causes  of  Failure 

Criminal  violations  of  law: 

Defalcations 

Fraudulent  management 

Wrecked  by  cashier  or  other  employee 

Other  violations  of  law: 

Excessive  loans 

Investments  in  real  estate  and  mortgages 

Other  causes: 

Injudicious  banking 

Shrinkage  in  values 

Depreciation  of  securities 

Failure  of  debtors 

Closed  by  or  in  anticipation  of  run 

Receiver  appointed  after  voluntary  liquidation 

Cause  not  indicated 

Total 


Number 


Per  Cent 


36 

6.96 

117 

22.63 

35 

6.77 

107 

20.70 

14 

2.71 

119 

23.01 

50 

9.67 

17 

3  29 

12 

2.32 

4 

.78 

3 

■58 

13 

•58 

S17 

100.00 

THE  REGULATION  OF  B.\NKING 


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THE  REGULATION  OF  BANKING  217 

III.    SUMMARY  OF  LEGISLATION  AFFECTmC  STATE  BANKS* 
By  JOHN  FRANKLIN  EBERSOLE 

The  prevailing  requirements  for  state  banks  may  be  sketched  in 
their  main  outlines.  The  minimum  capital  required  for  state  banks 
varies  from  nothing  to  $50,000  in  the  different  states.  In  the  South 
and  West  the  requirement  is  less  than  the  $25,000  required  for  na- 
tional banks.  Some  twenty  states  require  but  $10,000  or  less.  In 
twenty-nine  of  the  thirty-seven  states  and  territories  which  reciuire  a 
minimum  under  a  general  law,  the  amount  is  graded  according  to 
population.  In  most  of  these  states  $25,000  is  the  maximum,  though 
several  require  $100,000.  As  compared  with  the  national-bank  mini- 
mum of  $25,000  for  towns  of  less  than  3,000  population,  three  states 
have  higher,  seven  states  have  the  same,  and  seventeen  have  lower 
requirements.  As  compared  with  the  national-bank  requirement  of 
$50,000  for  places  of  3,000  to  25,000  population,  over  three-fourths 
of  the  states  which  prescribe  a  fixed  capital  have  lower  requirements. 
None  of  the  states  require  more;  in  several  they  require  much  less. 
For  cities  of  25,000  to  150,000  three-fourths  of  all  the  states  have 
lower  requirements  than  the  national-bank  requirement  of  $100,000. 

This  difference  in  the  amount  of  capital  required  is  one  of  the 
noteworthy  contrasts  between  national  and  state  legislation,  and 
this  difference  exists  not  in  legislation  only.  Sbcty-two  per  cent  of 
the  11,319  state  banks  in  operation  on  April  2S,  1909,  had  less  than 
$25,000,  and  27  per  cent  had  capital  ranging  between  $10,000  and 
$15,000.  A  few  states  show  some  lack  of  banking  ideals  in  permitting 
an  authorized  capital  larger  than  the  paid-in  requirements,  undue 
prolongation  of  the  paying  in  of  capital,  and  the  payment  of  subscrip- 
tions to  capital  in  things  other  than  "cash"  or  "money  of  the  United 
States." 

The  national-bank  act  requires  one-tenth  of  net  earnings  to  be 
set  aside  annually  toward  a  surplus  fund  until  it  amounts  to  one-fifth 
of  the  capital.  Nineteen  states  have  this  rule;  seven  states  have 
more  stringent  provisions;  Virginia  has  a  lower  requirement,  and 
seventeen  states  do  not  require,  by  general  law,  such  a  surplus  accumu- 
lation. In  addition  to  this  surplus  fund  added  to  capital,  most  stales 
follow  the  national-bank  act  in  providing  for  the  double  liability  of 
shareholders.     In  nineteen  states  the  sliareholdcrs  are  responsible 

'Adapted  from  "The  Relation  of  State  to  National  Banks,"  Proccfdings  of 
Ihe  American  Academy  of  Political  and  Social  Science,  I  (191 1),  286-90. 


2l8  PRINCIPLES  OF  MONEY  AND  BANKING 

"equally  and  ratably  and  not  for  another."  In  fourteen  states  the 
shareholders  are  liable  "jointly  and  for  each  other."  Sixteen  other 
states  are  more  lenient,  imposing  no  statutory  liability  whatever. 

With  reference  to  the  regulation  of  loans  the  state  banking  laws 
are  in  general  more  liberal  than  the  federal  law.  The  national-bank 
act  limits  the  amount  of  any  single  liabihty  due  a  national  bank  to 
one-tenth  of  its  capital  and  surplus  and  to  30  per  cent  of  its  capital 
stock.  With  the  exception  of  two  states  the  state  banking  laws  are 
far  more  liberal.  Some  twenty- two  states  allow  from  15  per  cent  to 
30  per  cent  of  capital  and  surplus  as  the  limit  to  each  individual 
liability  to  a  bank,  and  ten  states  have  no  limitations  whatever. 

The  national-bank  act  permits  an  excess  if  it  consists  of  advances 
on  bona  fide  bills  of  exchange  and  commercial  paper  actually  owned 
by  the  negotiator.  The  state  laws,  in  addition  to  these,  make  excep- 
tions in  favor  of  loans  on  real  estate  mortgages  (six  states) ;  loans  on 
bills  of  lading  and  warehouse  receipts  (eight  states) ;  loans  on  collat- 
eral security  (fifteen  states),  and  loans  approved  by  a  vote  of  the 
directors  (four  states).  This  greater  liberality  may  be  accounted  for 
by  the  smaller  size  of  most  of  the  state  banks  and  the  difl&culty  of 
enforcing  restrictions.  Even  in  the  national  system  enforcement  is 
not  easily  accomplished,  for  as  late  as  September,  1909,  over  one 
thousand  banks  (or  15  per  cent  of  the  total)  voluntarily  reported 
excessive  loans.  Several  of  the  eastern  states  have  recently  set  Umi- 
tations  as  to  the  amount  of  any  one  loan  irrespective  of  the  individual's 
liability. 

Another  important  contrast  between  national  and  state  banks  is 
the  power  conferred  upon  the  latter  and  denied  the  former  to  loan 
upon  real  estate.  A  few  states  limit  the  amount  to  be  put  into  real- 
estate  loans.  The  prevaiHng  practice  is  to  limit  these  loans  to  50 
per  cent  of  the  capital  or  capital  and  surplus.  A  few  place  the  limit 
at  from  15  per  cent  to  40  per  cent  of  the  assets,  and  some  at  20  per 
cent  of  the  loans.  State  laws  define  the  character  of  these  loans 
as  to  the  location  of  the  property,  the  character  of  the  lien,  or  the 
proportion  which  the  value  of  the  real  estate  must  bear  to  the  amount 
of  the  loan.  Holdings  of  real  estate  are  limited  to  a  five-year  duration 
following  a  foreclosure  sale. 

These  real-estate  loans  are  a  larger  proportion  of  the  total  loans 
in  the  smaller  towns  and  cities.  And  "notwithstanding  the  disad- 
vantages of  real  estate  as  a  convertible  asset,  the  power  to  loan  on 
the  security  of  real  estate  is  a  valuable  one  to  many  of  the  state 


THE  REGULATION  OF  BANKING  219 

banks."  On  April  28,  1909,  20.6  per  cent  of  the  total  loans  and  dis- 
counts of  state  banks  were  based  upon  security  of  this  character. 
In  so  far  as  the  deposits  of  state  banks  are  time  deposits,  this  form  of 
lending  cannot  be  troublesome,  though  it  is  not  suitable  for  active 
commercial  banks  in  large  centers  of  population. 

The  third  great  difference  between  national  and  state  banks  is 
found  in  the  reserve  requirements.  Here,  also,  the  state  banks  and 
territorial  laws  are  the  more  lenient.  At  present  (1910)  in  ten  states 
no  reserve  whatever  is  required  for  incorporated  banks.  In  fourteen 
states  a  reserve  is  required  only  against  demand  deposits.  The 
amount  ranges  from  10  per  cent  to  25  per  cent,  although  15  per  cent 
is  commonly  required.  In  six  other  states  a  lower  reserve  is  required 
against  time  deposits  than  against  demand  deposits.  This  ranges 
from  4  per  cent  to  15  per  cent  for  time  deposits  as  against  15  per 
cent  to  25  per  cent  for  demand  deposits.  In  sharp  contrast  the  na- 
tional-bank act  requires  from  15  per  cent  to  25  per  cent  of  all  deposits. 
This  example  has  been  followed  in  but  thirteen  states. 

Not  only  in  regard  to  the  amount  of  reserve,  but  also  as  to  its  form, 
do  state  and  national  laws  differ.  All  states  permit  balances  in  other 
banks  to  be  counted  as  a  part  of  the  reserve.  The  amount  of  redeposit 
so  authorized  varies  from  one-half  to  three-fourths. 

A  few  states  distinguish  between  the  amount  to  be  redeposited 
of  the  reserve  against  demand  and  time  deposits.  As  high  as  eleven- 
fifteenths  of  the  latter  are  so  redeposited. 

In  seven  states  "the  banks  determine  for  themselves  what  part 
of  their  reserves  shall  be  cash  in  bank  and  what  part  shall  be  in  the 
form  of  bank  balances."  In  four  states  bonds  may  be  counted  in 
the  reserve.  In  the  choice  of  depositaries  the  state  banks  are  practi- 
cally unrestricted.  In  but  five  states  are  distinctions  made  between 
the  reserves  required  of  ordinary  banks  and  reserve  agents. 


112.    THE  FUNCTIONS  OF  TRUST  CO.MP/\NIES' 
By  RALPH  W.  DAVIS 

The  functions  of  a  trust  company  may  be  divided  into  two 
classes:  general  and  special.  The  general  functions  are:  (i)  the 
execution  of  corporate  trusts,  (2)  the  execution  of  individual  trusts, 
(3)  the  care  of  securities  and  valuables,  and  (4)  banking. 

'  A(lai)tc(l  from  an  unpublished  article. 


220  I'RINCIPLKS  OF  MONEY  AND  BANKING 

The  company  often  acts  as  "trustee  under  corporate  mortgages 
and  trust  deeds,  looking  out  for  the  interests  of  the  bondholders.  As 
fiscal  agent  the  company  flispenses  coupons  and  makes  interest  pay- 
ments on  bond  issues  and  dividends  of  stocks.  It  receives  funds  set 
aside  as  sinking  funds,  or  when  the  bonds  are  subject  to  redemption 
draws  a  specified  amount  by  lot,  and  pays  the  principal.  As  regis- 
trar the  company  authenticates  certificates  of  stock  in  order  to 
prevent  overissues  and  to  reduce  the  chance  of  loss  or  theft.  As 
transfer  agent  it  attends  to  the  perfecting  of  transfers  of  ownership 
for  stock  and  bond  issues  or  parts  of  them.  As  manager  of  under- 
writing syndicates  it  issues  a  prospectus  and  markets  the  securities 
of  corporations  which  are  being  launched,  or,  if  established,  are  issuing 
new  securities.  In  railroad  and  other  reorganizations  the  company 
takes  a  prominent  part,  acting  both  as  a  depository  for,  and  as  a 
representative  of,  the  committees  which  formulate  and  execute  the 
plans.  As  assignee  and  receiver  the  company  acts  in  the  same  capa- 
city for  corporations  as  for  individuals  and  partnerships,  assisting  in 
winding  up  insolvent  business  and  in  conducting  embarrassed  ones. 

The  original  function  was  the  work  of  the  present  individual 
trust  department.  All  other  functions  have  been  added.  As  executor 
appointed  by  will  the  company  sees  to  the  carrying  out  of  the  terms 
of  the  will.  As  administrator  it  performs  similar  duties.  As  trustee 
under  a  will  it  carries  out  the  provisions  of  the  will,  investing  or 
managing  the  estate  or  particular  funds  in  accordance  with  the  direc- 
tions. In  this  case  it  may  hold  real  or  personal  property.  As  trustee 
under  deed  a  contract  is  entered  into,  and  the  title  of  the  prop- 
erty is  vested  in  the  company.  Marria,ge  settlements  are  often  made 
in  this  way. 

The  trust  company  often  acts  as  guardian,  curator,  or  committee 
of  estates,  and  in  some  states  of  persons  of  minor  age,  insane,  spend- 
thrifts, drunkards,  and  others  not  legally  fit  to  conduct  their  own 
affairs.  As  agent  the  company  takes  charge  of  property  for  its  o\\Tier, 
but  does  not  have  the  power  to  sell  it.  As  assignee  the  company  takes 
possession  of  the  property  assigned,  for  the  purpose  of  carrying  out 
the  terms  of  the  deed  of  assignment,  in  the  interest  of  both  the  assignor 
and  his  creditors.  As  receiver  appointed  by  court  the  company  has 
much  the  same  to  do  as  in  the  case  of  assignee.  It  must  preserve  the 
property  for  the  creditors.  As  custodian  the  company  holds  property 
the  title  of  which  is  in  dispute,  deUvering  the  same  when  the  dispute 
is  legally  settled. 


THE  REGULATION  OF  BANKING  221 

The  company  acts  as  representative  for  living  or  dead  in  practi- 
cally every  legal  relation  in  which  an  individual  can  act.  It  must  not 
only  keep  intact  the  estate  of  which  it  has  charge,  but  must  safeguard 
the  interest  of  every  beneficiary. 

The  special  functions  are  life  insurance,  title  insurance,  and 
fideUty  insurance.  Life  insurance  was  formerly  a  part  of  a  trust 
company's  business,  but  has  now  been  delegated  in  large  degree  to 
special  life  insurance  companies.  Title  insurance  is  often  found  to 
be  one  of  the  functions.  The  company  insures  the  purchaser  of 
property  because  of  illegal  titles  and  guarantees  the  sale  to  be  legal. 
Fidelity  insurance,  which  insures  an  individual  or  corporation  against 
loss  by  reason  of  dishonesty  and  non-performance  of  obligations  or 
contracts,  is  gradually  passing  into  the  hands  of  special  companies. 


113.    THE  BANKING  FUNCTIONS  OF  TRUST  COMPANIES' 
By  F.  B.  KIRKBRIDE  ant)  J.  E.  STERRETT 

The  banking  functions  of  trust  companies  may  include  any  or 
all  of  the  following: 

The  receipt  of  money  deposits  payable  on  demand  and  subject 
to  check,  or  payable  at  a  fixed  date,  or  according  to  special  agreement. 
Interest  is  usually  allowed  on  all  deposits  above  a  fixed  minimum 
amount  or  on  the  total  sum. 

^loney  advances  secured  by  the  hj'pothecation  of  stocks,  bonds, 
Ufe  insurance  policies,  bonds  and  mortgages,  or  other  personal 
property. 

Real  estate  loans,  secured  by  bond  and  mortgage.  It  is  customary 
to  loan  not  over  two-thirds  of  the  value  of  improved  property ;  when 
the  property  is  unimproved,  not  more  than  half. 

Discounting  paper  is  engaged  in  principally  by  companies  trans- 
acting a  commercial  banking  business.  The  purchase  of  unsecured 
paper  is  permitted  in  some  states  where  discounting  is  not  allowed. 

The  purchase  and  sale  of  securities. 

Trust  companies  sometimes  guarantee  issues  of  bonds,  or  at  least 
set  their  stamp  of  approval  upon  them. 

The  issue  or  guarantee  of  letters  of  credit  antl  the  transaction 
of  a  foreign  e.xchange  business. 

■  Adapted  from  The  Modern  Trust  Company,  p.  6.    (The  Macmillan  Co.,  1913) 


222  PRINCIPLES  OF  MONEY  AND  BANKING 

The  care  of  savings  deposits.  For  this  purpose  a  separate  depart- 
ment is  usually  maintained. 

114.    CAUSES  OF  THE  GROWTH  OF  TRUST  COMPANIES' 
By  clay  HERRICK 

Regarding  the  causes  of  the  growth  of  trust  companies,  the  easiest 
thing  to  say  is  also  probably  the  truest — that  they  are  found  in  the 
tendencies  of  our  age  and  nation.  The  trust  company  marks,  not  a 
revolution,  but  an  evolution  in  our  methods  of  handling  financial 
matters,  and  we  cannot  understand  its  development  without  taking 
into  account  the  great  changes  which  our  civilization  is  undergoing. 
There  is,  to  begin  with,  the  accumulation  of  individual  wealth — the 
increase  in  the  number  of  persons  and  families  having  large  interests 
to  care  for.  A  still  more  important  influence  has  been  the  tremendous 
increase  in  corporate  wealth,  both  in  number  of  corporations  and  in 
the  amounts  under  their  control.  Here  are  phenomena  that  are 
peculiar  to  the  United  States  and  peculiar  to  this  age.  Nothing 
like  the  huge  corporations  formed  in  recent  years  in  the  United 
States  has  ever  been  known  before  since  history  began.  To  care  for 
these  institutions  some  special  agency  was  needed.  The  trust  com- 
pany proved  equal  to  the  emergency.  Says  one  writer:  "Without 
their  [the  trust  companies']  agency  some  of  the  transactions  in  mod- 
ern corporate  business  would  be  both  cumbersome  and  difficult.  For 
the  success  of  schemes  of  reorganization  of  railroad  interests  and  the 
financing  of  vast  industrial  consolidations  their  intervention  has 
grown  to  be  at  least  an  invaluable  convenience,  if  not  altogether  a 
necessity." 

Coincident  with  this  tendency  to  great  consolidations,  the  grow- 
ing recognition  among  all  classes  of  people  of  the  value  of  associated 
effort  has  had  a  marked  influence  in  favor  of  trust  companies.  Here 
again  the  trust  company  finds  itself  in  harmony  with  the  times.  It  is 
an  intermediary  between  great  enterprises  and  the  group  of  individuals 
who  constitute  its  customers.  It  takes  the  amounts,  large  or  small, 
contributed  by  the  latter,  in  trust;  and  the  result  is  a  large  amount 
which  it  can  invest  in  any  corporate  undertaking  to  the  mutual  ad- 
vantage of  all  concerned.    Surplus  funds,  useless  in  small  amounts,  are 

'  Adapted  from  Trust  Companies,  Their  Organization,  Growth  and  Manage- 
ment, pp.  31-32.    (Bankers'  Publishing  Co.,  1909.) 


THE  REGULATION  OF  BANKING  223 

gathered  together  and  made  to  do  service  in  enterprises  that  benefit 
the  whole  people. 

115.    THE  REGULATION  OF  TRUST  COMPANIES' 
By  JOILN   franklin  EBERSOLE 

The  trust  companies  present  some  different  features  from  the 
state  banks.  While  it  is  true  that  the  laws  concerning  state  banks 
and  trust  companies  are  tending  to  become  assimilated,  certain  im- 
portant differences  remain. 

The  trust  companies  are  distinctly  authorized  to  accept  trusts 
and  to  do  a  safe-deposit  business  in  addition  to  general  banking. 
The  majority  of  the  states  which  provide  for  a  specified  capital 
require  a  minimum  of  $100,000  or  over.  There  is  a  tendency  in  recent 
legislation  to  lower  this  amount.  "In  every  state  except  one  the 
smallest  permissible  capital  is  as  large  for  trust  companies  as  for 
state  banks,  if  not  larger;  in  six  states  it  is  the  same;  in  all  the  others 
it  is  larger." 

Subscribed  but  unpaid  capitals  are  permitted  in  fourteen  states, 
but  the  majority  require  full  payment.  Of  the  latter  over  half  require 
full  payment  as  a  condition  for  beginning  business.  The  payment  is 
required  by  all  but  nineteen  states  to  be  "  in  cash  "  or  "  lawful  money." 
The  accumulation  of  a  surplus  is  not  required  in  so  many  states  for 
trust  companies  as  for  banks. 

With  respect  to  loans,  trust  companies  are  less  restricted  than 
state  banks.  Nine  states  which  limit  state  banks  do  not  limit  trust 
companies. 

The  reserve  requirements  for  trust  companies  are  much  less  than 
for  state  banks.  Six  states  and  territories  require  no  reserve  what- 
ever. Two  states  require  reserves  of  trust  companies  but  not  of  banks. 
In  the  remaining  states,  trust  companies  are  favored  by  being  allowed 
to  count  bonds  as  a  part  of  the  reserve,  or  to  hold  lower  reserves 
against  time  deposits.  Recent  legislation  shows  a  tendency  to  increase 
these  reserves  or  to  diminish  the  proportion  of  bonds  held  in  them. 
This  leniency  has  probably  been  due  to  the  different  character  of  the 
trust  company  deposits.  They  are  largely  inactive  and  contain  i)ut  a 
small  percentage  of  bank  deposits  which  are  subject  to  sudden  or 
large  withdrawals. 

'Adapted  from  "The  Relation  of  State  to  National  Banks,"  Proceedings  of 
the  American  Academy  of  Political  and  Social  Science,  I  (1911),  291-92. 


224  PRINCIPLES  OF  MONEY  AND  BANKING 

ii6.    TRUST  COMPANY  FAILURES' 
By  clay  HERRICK 

Statistics  regarding  failures  and  suspensions  of  trust  companies 
are  not  obtainable  prior  to  the  year  1893.  From  1893  to  1907  the 
percentage  of  failures  (or  the  ratio  of  the  number  of  companies  failing 
to  the  number  of  companies  in  business)  was  about  as  follows  for  the 
different  types  of  banking  institutions: 

National  banks 5  of  i  per  cent 

State  banks iVo  of  i  per  cent 

Savings  banks iVo  of  i  per  cent 

Loan  and  trust  companies iVo  of  i  per  cent 

From  these  figures  it  appears  that  the  proportionate  number  of 
trust  company  suspensions  was  less  than  that  of  any  class  of  financial 
institutions  except  the  National  banks. 

Regarding  the  losses  involved  in  the  failures,  the  showing  of  the 
trust  companies  is,  on  the  face  of  the  figures,  not  so  good,  the  losses 
assigned  to  them  exceeding  those  of  the  other  institutions,  except 
the  private  banks.  The  figures  represent,  however,  not  the  ultimate 
losses,  but  the  best  estimates  of  the  probable  results  obtainable  at 
the  time.  An  examination  of  the  figures  for  the  year  1907,  which 
account  for  62  per  centum  of  the  entire  estimated  liabilities  for  the 
fifteen  years,  shows  that  they  give  a  greatly  exaggerated  idea  of  the 
actual  losses  involved.  Of  the  17  trust  companies  reported  suspended 
in  1907,  at  this  date  (November,  1908)  about  one-half  have  reopened 
for  business,  while  several  others  are  being  liquidated  without  loss  to 
depositors. 

Especial  interest  attaches  to  the  record  of  trust  companies  during 
and  since  the  panic  of  1907,  because  it  was  the  first  severe  strain  that 
has  been  undergone  by  these  institutions  since  their  great  development 
began.  On  the  whole  the  record  must  be  pronounced  very  satisfac- 
tory. Although  subjected  to  a  strain  that  was  unprecedented,  their 
record  compares  favorably  with  that  of  other  classes  of  financial 
institutions.  The  failures  which  occurred  were  in  no  sense  ascribable 
to  any  inherent  weakness  in  the  trust  company  as  an  institution, 
but  are  accounted  for  in  some  cases  by  the  dishonesty  of  ofl&cials  and 
by  undue  laxity  of  the  state  laws  under  which  they  operated,  and  in 
others  by  pressure  of  circumstances  which  could  not  be  overcome 

'  Adapted  from  Trust  Compa)ues,  Their  Organization,  Growth  and  Management, 
pp.  23-24.    (Bankers'  Publishing  Co.,  1909.) 


THE  REGULATION  OF  BANKING  225 

by  any  kind  of  banking  institution.  The  same  causes  brought  about 
the  downfall  of  other  financial  institutions,  including  National  banks 
and  State  banks  in  states  having  the  best  laws  for  their  regulation 
and  control.  The  panic  of  1907  did,  however,  emphasize  the  necessity 
of  careful  and  intelligent  state  regulation  and  control  of  trust  com- 
panies as  well  as  of  the  other  banking  institutions. 

D.     The  Regulation  of  Note  Issues 

(i)     GENERAL  PRINCIPLES 

117.    METHODS  OF  BANK  NOTE  REGULATION* 

By  FRED   M.  TAYLOR 

The  chief  problems  offered  to  the  student  by  the  bank  note  cir- 
culation are  these  three:  (i)  How  shall  this  kind  of  money  be  kept 
at  par  with  standard  money?  (2)  How  shall  the  holders  of  such 
money  be  secured  against  loss  should  the  issuing  bank  default  on 
payment?  (3)  How  shall  this  money  be  given  that  elasticity  which 
will  enable  it  to  play  well  its  part  as  that  constituent  in  the  system 
which  is  depended  on  to  adjust  the  stock  of  money  to  the  need  for 
money  ?  Parity,  ultimate  security,  and  elasticity,  these  are  the  three 
principal  characteristics  which  wise  regulation  seeks  to  secure  for  the 
note  circulation. 

I.    THE   PARITY   OF   BANK   NOTES 

In  general  all  methods  of  insuring  parity  may  be  described  as 
devices  whereby  a  guarantee  is  given  to  the  note-holder  that,  in  case 
he  cannot  use  the  bank  note  in  the  ordinary  course  of  trade  he  can 
easily  make  some  other  disposition  of  it  which  will  not  involve  loss. 
Under  that  condition  everyone  is  willing  to  become  a  note-holder, 
and  so  is  willing  to  accept  the  note  at  par. 

The  principal  devices  coming  under  this  description  are  two:  (i) 
making  the  note  a  valid  tender  in  some  important  relation,  and 
(2)  providing  for  its  easy,  instant,  and  constant  convertibility.  It 
is  doubtful  whether  the  former  could  ever,  by  itself,  maintain  parity. 
Probably,  however,  it  contributes  greatly  to  the  result  when  the 
conditions  for  securing  convertibility  are  inadcf|uate,  as  is  commonly 
the  case. 

But  while  it  is  a  valid  tender  in  some  important  relation  contrib- 
uting to  maintaining  the  parity  of  notes,  the  only  sure  method  of 

'  Adapted  from  Sovic  Chapters  on  Money,  p|).  276-94.  (Coi)yriKlit  by  the 
author,  1906.) 


2  26  PRINCIPLES  OF  MONEY  AND  BANKING 

securing  this  characteristic  is  to  keep  them  easily  and  constantly 
convertible.  The  holder  of  such  notes  must  be  able  at  all  times,  and 
in  practically  all  places,  to  exchange  them,  without  material  trouble 
or  expense,  for  standard  money.  As  a  first  step  toward  this  end  the 
issuing  bank  must,  of  course,  redeem  the  notes  over  its  own  counter. 
But  this  is  not  enough.  Maintaining  this  condition  is  sufficient  to 
keep  the  notes  at  par  in  the  immediate  vicinity  of  the  issuing  bank; 
but  it  has  often  proved  unable  to  hinder  those  notes  from  circulating 
at  a  discount  in  distant  places.  The  ideal  plan  would  involve  a  great 
number  of  local  redemption  agencies  scattered  over  the  country,  with 
one  or  more  central  agencies  for  redeeming  the  notes  taken  in  by  the 
local  agencies.  In  practice,  however,  it  is  probably  sufficient  to  pro- 
vide for  redemption  at  one  or  more  important  banking  centers.  For 
the  existence  in  the  trade  centers  of  an  opportunity  to  get  the  notes 
redeemed  makes  the  banks  of  those  centers  ready  to  receive  them  at 
par,  while  this  fact,  combined  with  the  additional  one  that  banks  in 
lesser  places  have  frequent  occasion  to  send  money  to  the  centers, 
makes  this  latter  class  of  banks  quite  ready  to  receive  the  notes  at 
par.  Thus  the  maintenance  of  central  redemption  secures  what  is,  in 
effect,  local  redemption  throughout  the  country. 

In  the  preceding  discussion  of  parity  I  have  had  in  mind  the  case 
of  notes  issued  by  a  bank  still  solvent.  But  the  problem  of  keeping 
notes  at  par  may  also  arise  when  the  issuing  bank  has  gone  into 
liquidation.  If  we  suppose  that,  in  such  a  case,  there  is  no  doubt  as 
to  the  ultimate  security  of  the  note,  nevertheless  that  note  may  not 
be  generally  accepted  at  par,  may  pass  at  more  or  less  discount, 
pending  the  completion  of  arrangement  for  making  it  good  out  of 
the  assets  of  the  bank. 

This  particular  case  of  parity,  which  one  might  designate  as 
"liquidation"  parity,  may  be  more  or  less  adequately  provided  for 
in  several  ways.  One  device,  which  probably  contributes,  at  least,  to 
the  desired  result,  is  to  provide  that  the  notes  of  failed  banks  shall 
bear  interest  until  paid.  This  makes  them  a  banking  investment, 
hence  makes  banks  ready  to  accept  them.  Another  and  far  more 
effective  device  is  requiring  all  banks  in  the  system  to  maintain  a  fund, 
known  as  a  safety  fund,  from  which  the  notes  of  any  bank  in  liquida- 
tion shall  be  redeemed. 

A  third  method  of  securing  "liquidation"  parity  is  immediate 
redemption  by  a  guarantor  of  the  notes.  This  is  the  system  at  present 
in  vogue  in  the  United  States.    The  Federal  Treasury  agrees  to  redeem 


THE  REGULATION  OF  BANKING  227 

out  of  its  own  funds  the  notes  of  any  failed  bank,  recouping  itself 
by  the  sale  of  bonds  or  other  property  belonging  to  the  bank;  and 
this  redemption  it  undertakes  just  as  soon  as  the  issuing  bank  shuts 
its  doors.  Naturally,  under  this  condition,  the  notes  can  never  go 
below  par. 

II.   THE  SECURITY  OF  BANK  NOTES 

Considered  from  the  standpoint  of  the  methods  employed  to  make 
the  notes  secure,  systems  may  be  grouped  into  four  classes:  (i)  Pure 
Credit  or  Free  Issues,  (2)  Regulated  Credit  Issues,  (3)  Secured 
Issues,  and  (4)  Guaranteed  Issues.  The  first  two  of  these  might  be 
classed  together  as  Asset  Issues,  in  contrast  with  Secured  or  Guaran- 
teed Issues.  That  is,  no  special  property  is  set  aside  to  secure  them 
as  in  the  Secured  Issues,  nor  does  any  institution  guarantee  them,  so 
that  the  note-holder  must  depend  on  the  ordinary  assets  of  the  issuing 
bank  to  insure  him  against  loss. 

A.  Pure  Credit  Issues. — The  nature  of  Pure  Credit  Issues  is  sug- 
gested by  the  name.  They  rest  on  credit  solely,  the  same  sort  of 
credit  that  supports  any  personal  note.  They  are  free,  that  is,  unregu- 
lated, save  as  all  contracts  are  regulated.  The  banker  is  allowed  to 
borrow  other  people's  money  by  issuing  his  circulating  notes,  just  as 
he  would  borrow  other  people's  money  by  giving  an  ordinary  note 
payable  in  ninety  days,  or  in  two  years,  or  at  the  end  of  any  definite 
period.  The  whole  transaction  is  looked  on  as  being  the  business  of 
nobody  except  the  banker  and  the  person  who  accepts  the  note  and, 
thereby,  becomes  the  credi4:or  of  the  banker.  If  such  person  choose 
to  trust  the  banker,  that  is  his  own  affair,  calling  for  no  interference 
on  the  part  of  the  state  or  of  anyone  else. 

In  a  system  like  that  just  described  security  manifestly  depends 
on  the  promptness  and  thoroughness  with  which  the  rights  of  the 
note-holder,  under  the  ordinary  law  of  contracts,  are  enforced.  The 
note  of  the  banker  is  payable  on  demand.  If  the  banker  does  not  keep 
the  engagement,  he  can  be  forced  into  bankruptcy.  An.xiety  to  avoid 
this  result  would  seem  to  insure  that  bankers  would  be  at  least  as 
certain  as  other  debtors  to  keep  their  engagements,  and  tliat  there- 
fore the  security  of  these  notes  might  be  left  to  the  banker's 
self-interest  and  to  the  legal  processes  ordinarily  used  in  enforcing  con- 
tracts. Yet  experience  and  theory  alike  have  fairly  establishctl  a 
contrary  doctrine,  have  convinced  almost  all  authorities  that  no 
proper  guarantee  of  the  security  of  circulating  notes  is  furnished  by 
the  laws  regulating  ordinary  promissory  notes. 


22S  PRINCIi*LES  Ol-  MONEY  AND  BANKING 

B.  Regulated  Credit  Issues. — Under  this  head  arc  included  all 
those  systems  of  note  issue  which,  while  undertaking  to  do  something 
for  the  security  of  the  notes,  do  not  attempt  to  accomplish  the  object 
directly,  as,  for  example,  by  requiring  the  pledging  of  bonds  to  cover 
them.  Instead,  these  systems  content  themselves  with  defining  in 
one  way  or  another  the  circumstances  and  conditions  of  issue,  with 
the  intention  of  thereby  increasing  the  probability  that  the  notes  will 
be  secure.  Schemes  of  this  sort  are  very  numerous,  and  some  group- 
ing of  them  is  almost  necessary.  Perhaps  as  convenient  a  classification 
as  any  is  one  which  makes  five  groups:  viz.,  (a)  those  which  try  to 
gain  security  by  a  proper  placing  of  the  power  of  issue,  (b)  those 
which  seek  the  end  by  restricting  the  amount  of  issue,  (c)  those  which 
restrict  the  circulation  of  the  notes,  (d)  those  which  dictate  with  respect 
to  the  assets  kept  by  the  bank,  and  (e)  those  which  impose  some  degree 
of  government  supervision.  Obviously,  these  different  methods  of 
regulation  may  be  combined,  one  with  another,  as  also  with  Secured 
Issue  systems,  or  Guaranteed  Issue  systems. 

The  method  of  procedure  which  aims  to  furnish  security  by  a 
proper  placing  of  the  right  of  issue  gives  us  two  cases:  (i)  restricting 
the  right  of  issue  to  some  particular  bank  or  class  of  banks,  and 
(2)  restricting  the  right  to  a  special  department  within  the  bank. 
Restricting  the  right  of  issue  to  special  banks  has  taken  a  variety  of 
forms.  Sometimes  the  exercise  of  this  function  has  been  permitted 
only  to  banks  having  special  charters  from  the  legislature.  Further, 
the  legislature  has  granted  such  charters  very  sparingly,  in  France 
to  one  bank  only,  in  England  and  Germany  to  one  principal  one, 
together  with  a  few  others  which  are  permitted  to  play  a  subordinate 
role.  In  other  cases  the  right  of  issue  has  been  limited  to  companies 
incorporated  in  a  certain  way  and  acting  under  certain  well-defined 
conditions.  In  the  United  States  the  right  is  by  indirection  restricted 
to  banks  organized  under  Federal  Law. 

That  this  plan  of  exercising  great  care  in  placing  the  right  of  issue 
tends  to  increase  the  security  of  the  notes  cannot  be  doubted.  Mani- 
festly it  diminishes  the  chances  that  this  important  function  shall 
pass  into  the  hands  of  banks  which  are  too  loosely  organized,  too 
weak,  too  badly  managed,  or  too  dishonest  to  furnish  a  really  safe 
note. 

Restricting  the  right  of  issue  to  a  special  department  is  illustrated 
by  the  Bank  of  England.  It  contributes  to  the  ultimate  security  of 
the  notes  in  at  least  two  ways.    First,  it  in  some  measure  frees  the 


THE  REGULATION  OF  BANKING  229 

note  from  control  of  those  persons  in  the  bank  management  who  are 
under  most  temptation  to  be  imprudent  in  extending  unduly  the 
issue,  since  these  persons  will  belong  to  the  loan,  rather  than  to  the 
the  issue,  department.  In  the  second  place  any  evasion  of  legal 
restrictions  with  respect  to  the  amount  or  conditions  of  issue  is  more 
difficult  when  the  issuing  of  notes  is  under  the  control  of  a  separate 
department,  since  such  evasion  would  in  this  case  require  guilty 
collusion  between  the  responsible  managers  of  the  two  departments. 

The  efficiency  of  the  plan  for  promoting  security  which  limits  the 
amount  of  issue  is  manifestly  derived  from  the  fact  that  restricting 
the  quantity  diminishes  the  danger  that  an  imprudent  management 
will  extend  its  issues  until  bankruptcy  is  inevitable,  or  that,  in  case 
of  bankruptcy,  the  bank  will  find  the  amount  of  its  outstanding  notes 
too  great  to  be  paid.  In  our  day  substantially  every  banking  system 
of  importance  puts  limits  of  one  or  more  kinds  on  the  amount  of 
notes  issued.  Such  limits  may  be  direct  or  indirect;  that  is,  a  maxi- 
mum may  be  definitely  specified,  or  conditions  of  issue  may  be  imposed 
which  by  indirection  limit  issues. 

The  direct  hmitations  are:  (a)  absolute,  in  terms  of  dollars, 
pounds,  or  francs;  (b)  relative,  or  proportional,  to  capital  or  other 
factor;  (c)  fixed,  where  maximum  may  never  be  exceeded;  (d)  elastic, 
where  maximum  may  be  passed  under  penalty  of  a  tax. 

The  indirect  limitations  are:  (a)  to  notes  of  high  denominations; 
(b)  frequent  redemption;  (c)  restricting  territory  in  which  notes  may 
circulate. 

C.  Secured  Issue  Systems. — Here  are  included  all  which  attempt 
to  safeguard  the  note-holder  by  giving  him  a  special  claim  on  all,  or 
some,  of  the  property  owned  by  the  issuing  bank.  Of  such  systems 
the  simplest  is  that  which  gives  the  note-holder  a  first  lien  on  the 
general  assets  of  the  bank.  That  is,  should  the  bank  fail,  the  note- 
holder must  be  paid  in  full  before  other  creditors. get  anything.  The 
fitness  of  this  device  to  contribute  to  the  security  of  the  notes  is 
plain. 

Different  forms  of  property  are  used  for  security.  The  general 
choice  lies  between  (i)  special  securities,  such  as  bonds  and  mortgages, 
and  (2)  ordinary  banking  assets,  such  as  notes  and  bills  of  merchants 
and  manufacturers.  If  the  former  are  decided  upon,  choice  has  again 
to  be  made  among  bonds,  stocks,  and  mortgages. 

D.  Guaranteed  Issue  Systems. —The  essence  of  this  sysli-ni  is  to 
be  found  in  the  fact  that  some  institution,  or  group  of  institutions, 


230  J'R1.\CJ1'LJ:.S  or   money  AXJJ  JiAXKIXG 

outside  the  issuing  banks  becomes  sponsor  for  that  bank,  guaranteeing 
that  its  notes  shall  be  paid  in  any  and  all  cases. 

One  of  the  most  notable  examples  of  the  Guaranteed  Issue  system 
is  to  be  found  in  the  National  Bank  system  of  the  United  vStates. 
Here  the  guarantor  is  the  Federal  Treasury.  That  is,  the  Federal 
Treasury  promises  to  redeem  on  sight  all  notes  of  insolvent  national 
banks,  thus  giving  to  those  notes  all  the  security  which  the  credit 
of  a  great  and  rich  government  can  furnish.  At  the  same  time  the 
Treasury  is  fully  secured  against  loss  by  several  simple  provisions. 
First,  it  has  in  its  possession,  in  lawful  money,  a  fund  belonging  to  the 
bank  equal  to  5  per  cent  of  the  bank's  circulation.  Secondly,  it  is 
custodian  for  Federal  bonds  belonging  to  the  bank  equal  in  value 
to  the  total  circulation.  Thirdly,  it  has  a  first  lien  on  all  the  other 
assets  of  the  bank. 

III.      THE  ELASTICITY   OF   BANK   NOTE   CURRENCIES 

In  considering  what  are  the  best  means  for  securing  that  the 
notes  shall  possess  this  property  of  elasticity  it  is  convenient  to 
distinguish  ordinary  elasticity  and  emergency  elasticity.  By  the  former 
is  meant  the  capacity  to  expand  or  contract,  according  to  the  changes 
in  need  which  characterize  an  ordinary  year.  By  emergency  elasticity 
is  meant  the  power  to  expand  or  contract  according  to  the  changes  in 
need  which  characterize  a  commercial  crisis  and  the  depression  which 
follows  it.  Each  sort  of  elasticity  needs  to  be  studied  in  the  two 
phases  essential  to  both,  viz.,  expansibility  and  contractiUty. 

118.    THE  " CURRENCY "  VERSUS  THE  "BANKING "  PRINCIPLE* 
By  N.   G.  PIERSON 

"If,"  asks  Lord  Overstone — who  was  the  first  to  proclaim  the 
currency  theory — "there  be  no  bank  notes  in  a  country,  can  there 
ever  be  scarcity  of  metallic  money  in  that  country?"  Would  it  be 
possible,  for  instance,  for  the  balance  of  payments  of  such  a  country 
to  become  so  unfavorable  as  to  cause  all  the  metallic  money  and 
bullion  to  be  exported.  The  answer  is,  that  it  would  not  be  possible, 
for  when  money  is  scarce  its  value  rises  and  prices  fall.  And  when 
prices  fall  exports  increase  and  imports  diminish  until  there  is  suffi- 
cient money  and  bullion  in  the  country  once  more.    A  nation  which 

'  Adapted  from  The  English  Banking  System,  pp.  243-52.  (National  Monetary 
Commission,  191 1.) 


THE  REGULATION  OF  BANKING  23 1 

does  not  use  bank  notes  can  never,  in  the  long  run,  have  too  little 
metallic  money  in  relation  to  other  things.  It  may  be  a  poor  nation, 
certainly,  but  its  capital  will  always  include  such  a  proportion  of 
coined  money  as  shall  be  needful. 

It  is  different  with  a  country  which  uses  bank  notes  as  well  as 
coined  money,  for  in  such  a  country  exportation  .of  the  latter  does 
not  necessarily  cause  a  scarcity  of  money.  The  balance  of  payments 
becomes  unfavorable;  considerable  exports  of  gold  take  place;  but 
at  the  same  time,  by  granting  credit,  the  banks  greatly  increase  their 
uncovered  circulation.  Will  prices  fall  in  this  case  too?-*  Will  the 
balance  of  payments  change  and  cause  the  exported  gold  to  return 
to  the  country  ?  There  is  no  reason  to  expect  that  it  will,  because  no 
deficiency  will  have  arisen  in  the  monetary  circulation.  In  the  first 
of  the  two  cases  described  the  evil  cures  itself;  in  the  second  it 
grows  more  acute.  With  a  mixed  circulation,  that  is,  with  a  circula- 
tion consisting  partly  of  paper,  the  whole  of  the  metal  may  disappear 
without  causing  any  reduction  in  prices. 

What,  then,  are  the  means  which  a  country  using  bank  notes  should 
adopt  in  order  to  prevent  the  whole  of  its  gold  from  being  exported  ? 
The  law  should  prevent  the  banks  from  substituting  paper  for  the 
exported  metal;  or,  better  still,  it  should  compel  them  to  reduce 
their  uncovered  circulation  in  proportion  to  the  exports  of  the  metal. 
Suppose  the  stock  of  money  required  in  a  country  to  be  represented 
by  the  figure  loo  and  to  consist  entirely  of  gold;  if  a  quantity  of  this 
money  corresponding  to  the  figure  10  were  to  leave  the  country, 
there  would  remain  90,  consequently  not  enough  to  meet  the  demand, 
and  this  of  itself  would  cause  prices  to  fall.  But  suppose  the  needful 
stock  of  100  to  consist  of  50  parts  gold  and  50  parts  paper.  In  this 
case,  if,  while  10  parts  of  the  metallic  money  left  the  country,  the  paper 
circulation  were  increased  to  60,  the  total  stock  of  money  would  still 
remain  at  100,  and  therefore  suffice  to  meet  the  demand.  And  if  a 
second  10  parts  of  the  metallic  money  were  to  leave  the  country  and 
to  be  followed  by  a  third  and  fourth  10  parts,  while  the  paper  circu- 
lation was  increased,  at  first  from  60  to  70,  then  from  70  to  80,  and 
then  from  80  to  90,  there  would  always  be  a  sufficient  stock  of  money 
in  the  country,  and  the  exported  gold  would  not  return.  This  must 
be  prevented.  A  deficiency  in  the  monetary  circulation  must  not  be 
met  with  paper.  Measures  must  be  adopted  to  prevent  the  possil)ility 
of  the  whole  of  the  specie  and  bullion  being  drained  from  a  country 
and  the  bank  notes  of  that  country  thus  becoming  inconvertible. 


232  PRINCIPLES  OF  MONEY  AND  BANKING 

Such  is  the  currency  theory;  now  let  us  examine  its  defects. 
First  of  all  it  is  not  true  that  a  bank  invariably  does  wrong  when  it 
supplies  a  deficiency  in  the  monetary  supply  by  issuing  notes.  We 
forfeit  one  of  the  greatest  advantages  of  a  well-regulated  banking 
system  when  we  conform  strictly  to  the  currency  theory.  Suppose, 
for  instance,  that  a  crisis  has  occurred,  and  that  the  demand  for 
money  has  greatly  increased  in  consequence.  Will  it  not  have  a  salu- 
tary effect  if  the  bank  of  issue  is  able  to  meet  this  demand,  and  would 
it  not  be  the  height  of  folly  to  interfere  with  such  action  on  the  part 
of  the  bank?  Or  suppose  that  the  corn  crop  has  failed,  so  that  it 
has  become  necessary  to  import  large  quantities  of  grain  for  home 
consumption.  Is  it  not  an  advantage  in  such  a  case  not  to  have  to 
part  at  a  given  moment  with  large  quantities  of  interest-bearing 
bonds,  or  cattle,  or  machinery,  or  other  necessaries,  in  order  to  pay 
for  the  imports  of  grain  and  to  be  able  to  pay  for  them  in  the  mean- 
time by  exporting  precious  metals,  for  which  paper  can  be  temporarily 
substituted  ?  Steps  must  be  taken  to  ensure  the  return  of  the  exported 
metal;  but  this  need  not  be  done  immediately.  A  well-managed  bank 
always  has  a  larger  metallic  reserve  than  it  needs  in  ordinary  times, 
and  of  which  it  will  therefore  be  able  to  spare  a  part  in  times  of 
emergency.  When  the  time  of  stress  has  passed,  the  bank  will  gradu- 
ally restrict  its  credits,  thus  enabling  its  metallic  reserve  to  accumulate 
once  more.  In  the  meantime  it  will  have  rendered  a  great  service  to 
the  community,  for  it  will  have  mitigated  the  adverse  effects  of  the 
crop  failure  by  enabling  them  to  be  spread  over  a  more  extended 
period  of  time. 

There  is  a  second  mistake  in  the  currency  theory.  It  is  not  true 
that  in  a  country  where  no  bank  notes  are  in  circulation  exportation 
of  specie  results  in  an  immediate  fall  in  prices,  and  consequently  in  an 
alteration  in  the  balance  of  payments.  It  would  be  so  if  the  bank  ?totes 
were  the  only  possible  substitutes  for  specie,  but  bank  deposits  also 
serve  as  substitutes  for  specie.  Bank  notes  and  bank  deposits  differ 
only  in  form,  since  both  take  the  place  of  specie  when  they  are  not 
covered  by  a  metallic  reserve.  Let  the  needful  stock  of  media  of  pay- 
ment be  represented  by  the  figure  loo,  and  suppose  it  to  be  made  up 
of  specie  and  bank  deposits  each  to  the  extent  of  50.  If  specie  be  now 
exported  to  the  value  of  10,  but  the  banks  at  the  same  time  grant  credits 
to  their  depositors  to  the  same  amount,  how  is  the  fall  in  prices  to  take 
place  which  the  supporters  of  the  currency  theory  declare  to  be  the 
inevitable  result  of  the  exportation  of  precious  metal  from  a  country 


THE  REGULATION  OF  BANKING  233 

where  no  bank  notes  are  in  circulalion  ?  A  circulation  bank  issues 
notes  payable  to  bearer  with  which  people  pay  each  other.  A  deposit 
bank  credits  it  to  depositors'  accounts,  and  the  balances  produced  in 
this  way  also  constitute  a  medium  of  payment.  Wherein  does  the 
difference  lie  ?    The  difference,  we  repeat,  is  one  of  form  only. 

The  exponents  of  the  currency  theory  never  discerned  this.  Bank 
notes  are  money,  they  said,  and  bank  deposits  are  book  entries.  But 
we  are  not  concerned  here  with  calling  notes  and  bank  deposits  by 
their  right  names:  the  question  is,  what  functions  they  perform; 
whether  both  do  not  supply  the  place  of  specie;  whether  both  are  not 
capable  of  supplying  a  deficiency  in  the  specie  circulation  of  a  country 
where  the  cheque  is  a  very  common  medium  of  payment.  The  chief 
error  of  Lord  Overstone  and  his  followers  certainly  lay  in  their  not 
having  understood  this  clearly.  Their  doctrine  was  not  founded  on  a 
true  conception  of  the  bank  deposit.  Between  the  latter  and  the 
bank  note  they  sought  to  establish  a  fundamental  distinction  which 
does  not  exist. 

To  the  credit  of  their  opponents,  the  "Banking  Principle"  men, 
it  must  be  recorded  that  they  did  not  fall  into  this  error.  To  them  the 
closeness  of  the  relationship  between  the  bank  notes  and  the  bank 
deposit  was  perfectly  clear,  and  they  may  be  regarded  as  having 
rendered  a  service  in  making  it  more  widely  known.  If  the  contro- 
versy between  the  two  schools  had  been  waged  round  this  point  alone, 
we  should  not  have  a  moment's  hesitation  in  siding  absolutely  with 
the  latter.  But  the  adherents  of  the  "Banking  Principle"  have  erred 
so  egregiously  on  another  point  in  the  controversy  that  we  ffnd  it 
difficult  to  determine  toward  which  of  the  two  sides  we  feel  most 
attracted. 

The  point  to  which  we  allude  relates  to  the  question  as  to  how 
far  a  bank  can  bring  itself  and  the  community  into  danger  by  an 
excessive  issue  of  notes.  The  adherents  of  the  "Banking  Principle" 
hold  that  no  danger  can  be  incurred  by  either  so  long  as  the  notes 
remain  convertible. 

Should  they  cease  to  be  so,  then,  indeed,  too  large  a  quantity  of 
them  may  get  into  circulation,  just  as  may  happen  in  the  case  of  notes 
issued  by  the  Government  and  declared  legal  tender  by  enactment. 
Hut  if  the  bank  paper  be  convertible,  how  can  it  ever  become  redun- 
dant ?  What  the  public  has  no  use  for  it  returns  to  the  bank,  whose 
offices  are  always  ready  to  accept  the  paper  in  exchange  for  specie. 
A  bank  can  only  put  a  definite  quantity  of  notes  into  circulation; 


234  PRINCIPLES  OF  MONEY  AND  BANKING 

any  nolcs  which  it  issues  in  excess  of  that  quantity  get  returned  to 
it  under  an  iroii  law,  as  it  were.  This  is  proved  by  statistics.  When  we 
consult  them  we  are  surprised  to  find  how  little  variation  there  usually 
is  in  the  amount  of  notes  in  circulation.  It  was  through  Tooke  more 
especially  that  a  clear  light  was  brought  to  bear  upon  this,  and  his 
conclusions  have  been  fully  verified  by  later  investigations.  There  is 
indeed  a  remarkable  degree  of  regularity  in  the  demand  for  bank  notes. 
We  do  not  dispute  the  contention  of  the  adherents  of  the  "Banking 
Principle"  that  so  long  as  bank  paper  is  convertible  any  quantity 
of  it  issued  in  excess  of  a  certain  sum  gets  returned  to  the  bank  at  once. 

It  is  strange,  however,  that  people  should  ever  have  imagined 
that  this  constituted  a  safeguard  against  the  consequences  of  impru- 
dent bank  management.  It  is  precisely  in  the  return  of  the  notes  to 
the  bank  Uiat  the  danger  lies.  If  the  notes  did  not  return,  the  bank 
that  issued  them  could  never  get  into  difficulties.  The  fact  is,  however, 
that  these  institutions  give  rise  to  a  very  serious  condition  of  things 
if  they  issue  notes  to  excess. 

For  how  do  the  notes  return  ?  By  repayment  of  advances  ?  Do 
we  learn  from  the  statistics,  which  Tooke  and  others  have  compiled 
with  so  much  care,  that  when  a  bank,  by  granting  credit  too  freely, 
issues  paper  in  excess  of  the  requirements  of  trade,  the  public  repays 
its  outstanding  loans,  maturing  bills  are  met  and  so  fresh  ones  are 
discounted,  so  that  in  this  way  the  circulation  is  once  more  reduced  ? 
Quite  the  contrary:  the  statistics  show  that  the  redundant  notes  are 
ofifered  in  exchange  for  specie  or  used  in  purchasing  bullion  from  the 
bank,  the  specie  or  bullion  being  then  exported.  In  this  way  the 
amount  of  the  circulation  continues  the  same,  it  is  true,  but  its  com- 
ponents are  no  longer  the  same;  "uncovered"  is  substituted  for 
"covered"  circulation,  and  the  ratio  between  metallic  reserve  and 
note  circulation  becomes  less  favorable. 

Tooke's  statistics  plead  against  him  instead  of  for  him.  It  is 
just  because  of  there  being  a  limit  to  the  amount  of  notes  which  a 
bank  can  keep  in  circulation  that  an  excessive  paper  issue  becomes 
possible.  For  the  paper  issue  becomes  excessive  from  the  moment  that 
a  disproportion  exists  between  the  amount  of  notes  in  circulation 
and  the  amount  of  metal  in  reserve  against  them. 

"The  question  of  banks  of  issue  will  always  be  misunderstood,  and 
all  discussion  on  the  subject  mere  fencing  with  big  words,  so  long  as 
people  fail  to  realize  that  a  bank,  when  issuing  paper,  is  simply  an 
instrument  in  the  hands  of  the  pubhc."    Thus  wrote  a  Dutch  adherent 


THE  REGULATION  01-   BANKING  235 

of  the  "'Banking  Principle''  several  years  ago.  So  far  as  concerns 
the  ajnninl  of  its  circulation,  a  bank  is  undoubtedly  an  instrument  in 
the  hands  of  the  public;  but  it  is  not  the  instrument  of  the  public 
in  the  matter  of  the  items  which  go  to  make  up  that  amount,  and  it  is 
these,  more  especially,  that  one  has  to  consider  when  judging  whether 
a  note  issue  is  excessive  or  not. 

(2)     HISTORICAL  EXPERIENCES  WITH  NOTE  ISSUES 
119.    THE  RHODE  ISLAND  LAND  B.VNK' 

At  the  close  of  the  Revolutionary  War  the  people  of  Rhode  Island 
found  themselves  in  extreme  poverty  and  heavily  burdened  with 
their  share  of  the  national  debt.  The  war  had  seriously  crippled  their 
trade,  upon  which  they  were  mainly  dependent,  and  in  their  distress 
the  people,  instead  of  patiently  waiting  for  relief  to  come  by  the  slow 
process  of  rebuilding  their  trade,  turned  to  paper  money  for  relief. 
They  began  to  clamor  for  a  paper  bank  in  1785,  and  when  petitions 
for  such  a  bank  were  rejected  by  the  General  Assembly,  a  new  party 
was  organized  with  paper  money  as  its  chief  principle.  They  went 
before  the  Assembly  again  in  1786,  and  their  petitions  for  a  paper 
bank  were  met  with  counter-petitions  against  it,  signed  by  the  mer- 
chants of  Providence,  and  the  project  was  defeated  again  by  a  vote 
of  two  to  one.  They  then  carried  the  question  into  the  elections  and 
won  a  surprising  victory,  gaining  control  of  the  General  Assembly  by 
a  large  majority.  This  body  assembled  in  May,  17S6,  and  one  of  its 
first  acts  was  the  passing  of  a  law  establishing  a  paper-money  bank 
of  one  hundred  thousand  pounds. 

Every  farmer  or  merchant  who  came  to  borrow  money  must 
pledge  real  estate  for  double  the  amount  desired.  The  money  was 
to  be  loaned  to  the  people  upon  this  pledge  according  to  the  appor- 
tionment of  the  last  tax,  and  must  be  paid  into  the  treasury  at  the 
end  of  the  fourteen  years.  Great  expectations  were  entertained  by 
the  farmers  of  the  beneficent  results  which  were  to  follow  upon  this 
new  influx  of  wealth.  "  Many  from  all  parts  of  the  State  made  haste 
to  avail  themselves  of  their  good  fortune,  and  mortgaged  fields  strewn 
thick  with  stones  and  covered  with  cedars  and  stunted  pines  for 
sums  such  as  could  not  have  been  obtained  for  the  richest  pastures. 
They  had,  however,  no  sooner  obtained  the  money  and  sought  to 
make  the  first  payment  at  the  butcher's  or  baker's,  than  they  found 
that  a  heavy  discount  was  taken  from  the  face  value." 

'  .Vdapted  from  the  Century  Magazine,  XL  1 1  (1S91),  151-5J. 


236  PRINCIPLES  OF  MONEY  AND  BANKING 

The  depreciation  of  the  new  money  began  lilcrally  with  its  issue. 
Every  merchant  and  tradesman  in  the  State  refused  to  receive  it  for 
its  face  value,  and  the  holders  of  it  refused  to  make  any  discount. 
The  General  Assembly  came  to  the  aid  of  the  bank  and  sought  to 
give  its  paper  money  full  value  by  statutory  enactment.  A  forcing 
act  was  passed  subjecting  any  person  who  should  refuse  to  take  the 
bills  in  payment  for  goods  on  the  same  terms  as  specie,  or  should  in 
any  way  discourage  their  circulation  on  such  terms,  to  a  fine  of  one 
hundred  pounds  and  to  the  loss  of  his  rights  as  a  freeman.  This  made 
matters  worse  than  ever.  Merchants  and  traders  refused  to  make 
any  sales  whatever,  many  of  them  closing  their  shops,  disposing  of 
their  stock  by  barter,  and  going  out  of  business.  In  fact,  money 
almost  ceased  to  circulate  at  all.  '  Nearly  all  kinds  of  business  was 
transacted  by  barter,  rents  were  paid  in  grain  and  other  commodities, 
and  the  only  people  who  used  the  paper  money  were  those  who  had 
borrowed  it  on  their  land.  The  chief  cities  of  the  State,  Providence 
and  Newport,  presented  a  very  remarkable  spectacle.  Half  their 
shops  were  closed,  their  inhabitants  idle,  and  their  streets  animated 
only  by  groups  of  angry  and  contentious  men  blaming  one  another 
for  the  blight  which  had  fallen  upon  their  business  and  industries.  In 
order  to  retaliate  upon  the  merchants  and  traders  for  refusing  to  take 
their  money,  the  farmers  refused  to  bring  their  produce  to  market. 
A  famine  was  so  imminent  in  Providence  because  of  this  withholding 
of  supplies  that  a  town  meeting  was  called  to  devise  means  for  obtain- 
ing the  necessaries  of  life.  To  provide  immediate  relief  for  persons 
in  want  of  bread  five  hundred  dollars  was  authorized  to  be  borrowed 
by  the  town  council.  In  Newport  a  mob  brought  on  a  riot  by  attempt- 
ing to  force  grain  dealers  to  sell  corn  for  paper  money. 

In  August,  about  two  months  after  the  estabUshment  of  the  bank, 
affairs  became  so  desperate  that  a  State  convention  controlled  by 
the  country  towns  adopted  a  report  recommending  the  General 
Assembly  to  enforce  and  amend  the  penal  laws  in  favor  of  paper 
money  and  advising  farmers  to  withhold  their  produce  from  the 
opponents  of  the  bank.  The  General  Assembly,  convened  in  special 
session  for  the  purpose,  passed  an  additional  forcing  act,  which  sus- 
pended the  usual  forms  of  justice  in  regard  to  offenders  against  the 
bank,  by  requiring  an  immediate  trial,  within  three  days  after  the 
complaint  was  entered,  without  a  jury  and  before  a  court  of  which 
three  judges  should  constitute  a  quorum,  whose  decision  should  be 
final,  and  whose  judgment  should  be  instantly  compUed  with  on 


THE  REGULATION  OF  BANKING  237 

penalty  of  imprisonment.  The  fine  for  the  first  offense  was  fixed  at 
from  six  to  thirty  pounds  and  for  the  second  at  from  ten  to  fifty 
pounds.  "This  monstrous  act  of  injustice,"  says' Arnold,  "was  car- 
ried through  the  legislature  by  a  large  majority,  and  the  solemn 
protest  against  it  as  a  violation  of  every  particle  of  moral  and  civil 
right,  of  the  charter,  of  the  articles  of  confederation,  of  treaty  obliga- 
tions, and  of  every  idea  of  honor  or  honesty  entertained  among  men," 
which  a  minority  of  the  members  presented,  was  not  allowed  to 
appear  on  the  record. 

This  second  forcing  act  brought  matters  to  a  crisis.  A  butcher 
in  Newport  was  brought  into  the  Superior  Court  on  a  charge  of 
refusing  to  receive  paper  money  at  par  in  payment  for  meat.  A 
great  concourse  of  spectators  attended  the  trial,  which  was  before  a 
full  bench  of  five  judges.  Leading  lawyers  appeared  for  both  sides, 
and  their  arguments  occupied  a  whole  day.  Two  of  the  judges  spoke 
against  the  forcing  acts,  and  the  other  three  were  of  the  same  mind. 
On  the  following  morning  the  formal  decision  of  the  court  was 
announced,  declaring  the  acts  unconstitutional  and  void,  and  dis- 
missing the  complaint.  The  wrath  of  the  General  Assembly  at  this 
decision  was  great.  A  special  session  was  at  once  convened,  and 
the  judges  were  summoned,  in  language  of  incredible  arrogance,  to 
appear  before  the  Assembly  to  assign  the  "reasons  and  grounds"  for 
their  decision.  Three  of  the  judges  obeyed  the  summons,  but  as  the 
other  two  were  detained  by  sickness  the  hearing  was  postponed  till 
the  next  session.  At  the  next  session  four  of  the  offending  judges 
were  removed.  Before  adjourning  the  General  Assembly  prepared  a 
new  act  to  "stimulate  and  give  efficacy  to  the  paper  bills."  This 
was  called  the  Test  Act,  and  it  contained  one  of  the  most  remarkable 
oaths  ever  prescribed  to  a  free  people.  Everyone  taking  the  oath 
bound  himself  in  the  most  solemn  manner  to  do  his  utmost  to  support 
the  paper  bank  and  to  take  its  money  at  par.  Ail  persons  refusing 
to  take  the  oath  were  disfranchised.  Ship  captains  were  forbidden 
to  enter  or  to  go  out  of  ports  of  the  State,  lawyers  were  not  to  be 
allowed  to  practice,  men  were  not  to  be  allowed  to  vote,  politicians 
were  not  to  be  allowed  to  run  for  office,  and  members  of  the  legislature 
were  not  to  be  allowed  to  take  their  seats  until  the  oath  had  been 
taken.  This  was  so  stringent  a  measure  that  the  General  Assembly 
was  afraid  to  take  the  responsibiHty  of  enacting  it,  and  after  consid- 
ering it  referred  it  to  the  people  of  the  towns  for  approval.  Only 
three  towns  in  the  State  voted  in  its  favor,  all  the  others  rejecting  it. 


238  PRINCIPLES  OF  MONEY  AND  BANKING 

This  ended  all  efforts  to  force  the  people  to  take  the  money  at 
par  in  ordinary  business  transactions.  The  General  Assembly,  in 
January,  1787,  formally  repealed  the  forcing  acts,  and  then  took  the 
first  step  toward  the  repudiation  of  the  State  debt  by  ordering  the 
treasurer  to  pay  off  one-fourth  of  it  in  the  I)ills  received  for  taxes, 
that  is,  in  the  depreciated  paper  money,  which,  at  that  time,  was 
circulating  on  the  basis  of  six  to  one.  By  successive  steps  of  this  and 
similar  kinds  the  entire  State  debt  was  extinguished,  public  creditors 
being  forced  to  take  it  on  terms  prescribed  by  the  State  or  to  forfeit 
their  claims.  The  last  instalment  of  the  debt  was  got  rid  of  in  1789, 
in  a  forced  settlement,  when  the  paper  money  which  the  helpless 
creditors  received  was  worth  only  one-twelfth  as  much  as  coin. 
"Had  a  general  act  of  insolvency,"  says  Arnold,  "relieving  all  debtors 
from  their  liabilities  and  the  State  from  its  legal  obligations  been 
passed  in  the  first  instance,  the  same  end  would  have  been  more 
speedily  accomplished,  and  the  means  would  not  have  differed  very 

widely  from  those  that  were  actually  employed It  fell  but 

little  short  of  repudiation." 

During  1787,  when  the  value  of  the  paper  money  ranged  from  one- 
sixth  to  one-tenth  that  of  coin,  bills  in  equity  for  the  redemption  of 
mortgaged  estates  were  filed  in  large  numbers  in  the  courts.  The 
Superior  Court  of  Newport  declined  to  try  any  case  in  which  a  large 
sum  was  involved.  Suitors  came  to  court  with  paper  money  in  hand- 
kerchiefs, bags,  and  pillowcases,  asking  to  have  the  holders  of  their 
mortgages  forced  to  take  this  at  par  in  redemption  of  their  lands. 
One  bag,  containing  fourteen  thousand  dollars,  was  brought  for  the 
redemption  of  a  single  farm.  But  the  court  refused  to  try  all  cases 
of  the  kind.  The  value  of  the  paper  money  dropped  steadily  till 
fifteen  paper  dollars  were  worth  only  one  coin  dollar.  In  August,  1789, 
the  General  Assembly  showed  its  first  sign  of  returning  reason  by 
suspending  the  operation  of  the  tender  law.  It  followed  this  by 
repealing  the  statute  of  limitations,  because  of  the  depreciation  in 
the  value  of  paper  money,  and  by  extending  the  time  allowed  for 
the  redemption  of  mortgages  from  five  to  twelve  years.  Finally,  in 
October  it  repealed  as  much  of  the  Paper  Bank  act  as  made  the  bills 
a  tender  at  par,  and  debtors  were  authorized  to  substitute  property 
at  an  appraised  value  for  money  in  discharge  of  debts.  The  act 
which  effected  the  repeal  fixed  the  value  of  the  paper  bills  at  fifteen 
to  one.    This  was  the  end. 


THE  REGULATION  OF  BANKING  239 

1 20.    EARLY  STATE  BANK  NOTE  ISSUES' 

By  DAVIS   R.   DEWEY 

I.      VOLUME 

The  restrictions  laid  down  in  the  charters  of  state  banks  in  the 
period  before  the  Civil  War  were  exceedingly  vague  and  lax,  and 
little  protection  was  given  to  the  currency.  Many  of  the  acts  of 
incorportation  did  not  make  specific  requirements  with  reference  to 
the  volume  of  notes  that  might  be  issued,  but  covered  the  point  indi- 
rectly through  limitations  in  the  amount  of  indebtedness,  including 
deposits. 

The  states  were  generous  in  their  grants  of  indebtedness.  At 
the  outset  this  Umitation  was  generally  set  at  two  or  three  times 
the  capital.  This  amounted  to  practically  no  limitation  at  all,  at 
least  upon  banks  with  a  large  capital,  and  admitted  an  issue  of  notes 
out  of  all  proportion  to  the  specie  fund.  Naturally  it  afforded  an 
opportunity  for  a  wide  range  and  violent  fluctuations  in  the  amount 
of  outstanding  currency,  depending  upon  applications  for  discounts. 

In  many  cases,  however,  particularly  in  the  northern  states,  the 
banks  did  not  issue  the  legal  maximum.  There  was  a  marked  varia- 
tion, also,  in  the  amounts  issued  by  banks  in  the  country  and  those 
in  the  city,  the  latter  doing  more  of  a  discount  and  deposit  business. 

II.      REDEMPTION 

In  the  earliest  charters  there  was  no  express  provision  made  for  the 
redemption  of  notes,  nor  was  there  any  penalty  for  non-redemption. 
The  issuing  of  notes  was  generally  regarded  as  the  principal  object 
of  a  bank's  existence  instead  of  an  incidental  function.  The  Umita- 
tion of  note  issues  to  a  certain  proportion  of  the  capital  which  was 
often  represented  by  stock  notes  of  shareholders  rather  than  solid 
funds  was  of  Uttle  consequence.  Practically  the  only  security  for 
convertibility  lay  in  the  liability  imposed  upon  stockholders,  and 
particularly  upon  directors,  in  case  of  failure  or  mismanagement. 
Indeed,  many  in  the  earlier  part  of  the  nineteenth  century  considered 
that  it  was  improper  and  injurious  to  call  upon  a  bank  for  specie  in 
payment  of  its  bills.  "Brokers  who  sent  home  the  bills  of  country 
banks  were  denounced  as  speculators  and  bloodsuckers,  whose  extir- 
pation would  be  a  public  benefit."     Respectable  men  defended  the 

■Adapted  from  State  Banking  before  the  Civil  War,  pp.  53-224.  (National 
Monetary  Commission,  1910.) 


240  PRINCIPLES  OF  MONICY  AND  BANKING 

conduct  of  banks  in  interposing  obstacles  to  the  payment  of  their 
notes  to  brokers  who  had  bought  them  up  to  discount.  A  Boston 
broker  was  brought  before  the  grand  jury  of  Vermont  for  demanding 
payment  in  specie  for  the  bills  of  one  of  its  banks,  on  the  complaint 
of  the  attorney  general  that  he  was  guilty  of  an  indictable  offense. 

As  a  result  of  disastrous  experience  various  methods  were  tried 
to  enforce  redemption.  On  the  one  hand  the  public,  through  its 
legislatures,  gradually  imposed  penalties  upon  banks  for  failure  to 
honor  their  note  obligations,  and  on  the  other  hand  prudent  and 
well-managed  banks  found  it  necessary,  in  self-defense  and  for  their 
mutual  benefit,  to  establish  voluntary  arrangements  whereby  notes 
could  be  promptly  redeemed.  Until  about  1830,  however,  the  situa- 
tion was  on  the  whole  deplorable,  particularly  so  in  the  South  and 
West;  and  with  few  exceptions  the  situation  continued  bad  prac- 
tically down  to  i860.  During  the  first  half  of  the  century  various 
devices  were  employed  by  speculative  banks  to  increase  their  circu- 
lation and  avoid  redemption.  In  18 18  a  legislative  committee  of 
New  York  enumerated  some  of  the  schemes  which  were  thus  adopted, 
such  as  placing  a  fund  in  a  distant  bank  to  redeem  notes,  and,  after 
it  became  generally  known  that  the  notes  were  at  par  in  that  quarter, 
issuing  a  new  emission  signed  in  ink  of  a  different  shade,  at  the  same 
time  giving  secret  orders  to  the  correspondent  bank  not  to  pay  the 
notes  thus  signed.  Others  issued  a  species  of  paper  called  "faciUty" 
notes,  not  payable  in  money,  but  receivable  by  banks  issuing  them 
in  payment  of  debts  due.  Again,  large  accommodations  were  given  to 
individuals  on  agreement  that-  the  borrowers  should  keep  in  circu- 
lation a  certain  sum  for  a  specified  time,  the  notes  being  designated 
by  a  private  mark,  and  in  case  the  notes  were  returned  before  the 
date  set  the  borrowers  were  to  be  charged  with  the  discount  on  such 
sum  for  the  remainder  of  the  period.  To  others  loans  were  made  on 
condition  that  the  borrowers  pay  their  notes  when  due  in  what  was 
called  current  money;  that  is,  notes  of  banks  which  were  current 
throughout  the  State,  but  not  including  the  bank's  own  notes.  The 
borrower,  therefore,  was  often  obliged  to  pay,  as  the  time  drew  near,  a 
premium  in  order  to  secure  acceptable  notes. 

Most  of  these  schemes  bordered  so  closely  upon  fraud  that  they 
had  to  be  abandoned.  Other  methods,  however,  were  employed,  some 
of  which  may  be  enumerated,  as  follows: 

I.  About  1835  it  became  common  for  banks  in  the  North  to 
employ  agents  to  exchange  bills  of  one  bank  for  notes  of  other  banks. 


THE  REGULATION  OF  BANKING  24 1 

This  practice  was  continued  in  Massachusetts  and  complained  of  by 
the  commissioners  in  a  report  of  1S40.  The  bank  inspector  of  Ver- 
mont, 1837,  criticized  the  practice  and  characterized  it  as  a  icind  of 
piracy  of  one  bank  on  another;  a  bank  situated  within  reach  of  other 
banks  sometimes  had  to  decide  against  discounting  an  application  for 
a  loan  because  of  the  .belief  that  the  bills  would  be  promptly  taken 
up  and  sent  back  for  redemption.  This  consequently  forced  banks  to 
seek  for  discounts  at  distant  places. 

2.  In  some  States  banks  made  their  notes  payable  at  some  other 
place  than  where  the  office  was  located;  for  example,  in  18 16  the 
Dedham  Bank  of  Massachusetts  issued  three-fourths  of  its  circulation 
drawn  on  the  cashier  of  the  bank  at  Middletown,  Connecticut.  The 
legislature  promptly  passed  an  act  prohibiting  the  issue  of  notes 
payable  at  other  banks  unless  payable  also  at  the  bank  of  issue. 
This  act,  however,  did  not  extend  to  checks  or  drafts  for  sums  exceed- 
ing Sioo,  and  it  was  subsequently  learned  that  the  Dedham  Bank 
issued  bills  for  $101  in  order  to  avoid  the  penalty.  In  the  Southwest 
this  practice  became  an  established  custom. 

3.  Notes  were  loaned  on  an  agreement  that  they  would  not  be 
presented  for  redemption  within  a  certain  time.  In  1839  the  bank 
commissioners  of  Massachusetts  complained  that  some  banks  in  that 
State  loaned  bills  at  a  lower  rate  of  interest  on  condition  that  they 
should  be  kept  in  circulation.  In  Connecticut  the  legislature  in  1837 
found  it  necessary  to  pass  a  law  prohibiting  banks  from  making 
loans  which  involved  an  express  agreement  that  the  notes  would  not 
be  returned  to  the  bank  for  redemption  within  a  Hmited  time. 

4.  A  most  common  method  was  putting  notes  in  circulation  at 
distant  points.  Its  extreme  form  is  to  be  found  in  the  "Saddlebag 
Bank"  described  by  Niles  in  1820:  "A  bank  whose  notes  were  carried 
about  the  country  in  saddlebags  to  be  exchanged  with  landowners 
for  their  notes."  In  the  middle  of  the  century  the  practice  was 
illustrated  in  the  development  of  "Wildcat  banks"  in  the  West. 
But  banks  in  the  East  were  also  guilty.  Ill-managed  banks  supplied 
brokers,  shopkeepers,  tavern-keepers,  drivers,  and  workmen  with 
quantities  of  paper  and  paid  them  liberally  for  getting  it  off.  Agents 
carried  these  notes  to  every  corner  of  the  country,  even  to  the  British 
provinces,  and  beset  travelers  for  an  exchange  of  bills.  One  broker 
in  Rhode  Island  put  oil  in  one  year  more  than  $200,000  of  the  notes 
of  a  speculative  bank,  mostly  in  one-dollar  bills.  In  1840  the  com- 
missioners of  Connecticut  complained  that  several  of  the  banks  made 


242  PRINCIPIJiS  OF  M(JNi:V  AND  IJANKING 

discounts  upon  an  understanding  thai  the  notes  were  to  be  put  in 
circulation  at  a  distance.  Branch  banks  in  the  South  employed  this 
method  to  a  considerable  degree. 

After  1837  the  question  of  having  an  adequate  specie  basis  to 
support  circulation  became  a  matter  of  common  discussion.  Prac- 
tically the  only  provisions  relating  to  the  holding  of  specie  were  those 
requiring  original  payments  in  gold  and  silver  of  a  certain  portion  of 
the  capital  stock  before  the  bank  began  business,  but  as  a  rule 
banks  did  not  retain  this  coin  after  operations  were  once  begun. 
Another  indirect  requirement  was  that  which  prescribed  a  penalty 
in  case  a  bank  refused  or  delayed  redemption  of  bills.  In  these 
provisions  it  will  be  observed,  however,  that  there  was  no  specification 
of  keeping  on  hand  a  fixed  amount. 

The  experience  of  Massachusetts  may  be  taken  as  fairly  typical 
of  the  Northern  states.  The  joint  committee  on  banks  and  banking 
reported  that  it  would  be  unconstitutional  to  impose  upon  banks  the 
requirement  that  they  should  keep  on  hand  10  per  cent  in  specie,  as 
this  would  be  a  new  burden  not  contemplated  in  the  original  charters. 
In  1850  the  subject  was  again  investigated  by  the  legislature,  but  a 
committee  thought  that  application  of  a  definite  rule  was  too  difficult 
to  determine;  there  was  a  great  variation  in  the  amount  of  specie 
kept  by  individual  banks;  in  Plymouth  County  it  varied  from  16  to 
24,  and  in  Norfolk  from  6  to  30  per  cent.  In  1855  the  bank  commis- 
sioners reported  that  the  banks  kept  too  little  specie;  coimtr}'  banks 
with  a  capital  of  more  than  $26,000,000  had  but  about  $1,000,000  in 
specie,  and  the  city  banks  with  a  capital  of  $33,000,000  had  an  aver- 
age of  only  about  $3,000,000.  In  the  next  year  the  commissioners 
again  referred  to  the  subject  and  noted  that  the  banks  had  not 
improved  their  position:  "  We  continue  to  feel  surprised  that  judicious 
men  connected  with  banks  still  continue  to  speak  with  indifference 
of  the  item  of  specie."  In  1858  an  act  was  passed  requiring  the  banks 
to  keep  on  hand  in  specie  15  per  cent  of  their  aggregate  liabiUty  for 
circulation  and  deposits.  Banks  outside  of  Boston,  however,  could 
count  as  specie  their  balances  in  other  banks,  not  bearing  interest, 
which  could  be  applied  to  the  redemption  of  bills.  Under  this  proviso 
a  country  bank  was  not  obHged  to  keep  a  dollar  in  its  own  vaults. 

In  1 86 1  the  average  holding  for  both  notes  and  deposits  was  7.5 
per  cent  for  the  country  banks  and  21  per  cent  for  the  banks  of  Boston. 

Although  there  was  little  legislation  in  States  south  of  New  York 
on  this  subject,  the  need  of  a  better  protection  to  the  circulation 


THE  REGULATION  OI-   BANKING  243 

through  the  holding  of  coin  was  frequently  referred  to  by  the  bank 
commissioners  and  legislative  committees.  Not,  however,  until  1S60 
was  there  any  specific  requirement  as  to  specie  holdings  by  banks 
in  Pennsylvania,  and  in  the  law  then  passed  only  8  per  cent  in  specie 
or  its  equivalent  was  demanded.  Virginia  passed  an  act  in  1837  pro- 
viding that  banks  should  have  one-fifth  of  their  notes  in  specie  and 
forbade  a  bank  to  make  any  loan  when  the  reserve  fell  below  this 
limit.    This  ratio  was  observed  in  subsequent  legislation. 

In  1838  the  bank  commissioners  of  Mississippi  advised  that  the 
banks  should  have  $1  in  specie  for  every  S3  in  circulation  and  deposits. 
Louisiana  had  the  credit  of  taking  the  most  advanced  position  of  all 
the  States  in  her  reserve  requirements  for  banks;  for  many  years  the 
Louisiana  State  Bank  maintained  a  specie  holding  of  one-third  its 
total  responsibilities.  In  1838  the  associated  banks  of  New  Orleans 
agreed  to  carry,  in  1S39,  specie  holdings  of  one-third  their  aggregate 
circulations  and  deposits  in  specie,  while  a  sum  equal  to  the  remaining 
two-thirds  must  be  invested  in  short-time  paper  payable  absolutely  at 
maturity.  Discounting  by  a  bank  which  had  been  ten  days  below 
the  specie  line  was  made  an  act  of  insolvency,  requiring  liquidation, 
and  directors  or  managers  who  assented  to  the  violation  of  the  law 
on  this  point  were  made  individually  liable  for  all  debts.  This  legis- 
lation was  approved  by  its  results;  banks  of  New  Orleans  passed 
successfully  through  the  crisis  of  1837,  and  in  March,  1S61,  at  the 
beginning  of  the  Civil  War,  they  held  sixteen  millions  of  specie  to  a 
capital  of  twenty  millions. 

Ohio,  in  1839,  enacted  that  the  volume  of  bills  issued  should  not 
exceed  three  times  the  amount  of  specie  on  hand,  exclusive  of  deposits. 
By  the  free  banking  act  of  185 1  banks  were  required  to  have  on 
hand  in  gold  or  silver,  or  their  equivalent,  30  per  cent  of  their  out- 
standing notes.  The  State  Bank  of  Iowa,  185S,  required  a  reserve 
of  coin  of  one-fourth  the  circulation  and  a  similar  reserve  in  current 
notes  for  the  deposits. 

121.    NOTE  ISSUES  UNDER  THE  FREE-BANKING  SYSTEM' 
By   JOHN   JAY    KNOX 

The  free-banking  system  of  New  York  was  authorized  on  April 
i3j  I'^.V^-  Under  its  provisions  any  number  of  persons  were  authorized 
to  form  banking  associations  upon   tlie  terms  and  conditions  and 

'  Adapted  from  Report  of  Comptroller  of  the  Currency,  wSyO,  pp.  xxiii-x.xxvi. 


244  PRINCIPLES  OF  MONEY  AND  liANKINO 

subject  to  the  liabilities  of  the  act.  The  law  originally  provided  that 
such  associations,  on  depositing  stocks  of  the  State  of  New  York  or 
of  the  United  States,  or  any  State  stock  which  should  be,  or  be  made, 
equal  to  a  5  per  cent  stock,  or  bonds  and  mortgages  on  improved  and 
productive  real  estate  worth,  exclusive  of  the  buildings  thereon, 
double  the  amount  secured  by  the  mortgage,  and  bearing  interest 
at  not  less  than  6  per  cent  per  annum,  should  receive  from  the  Comp- 
troller of  the  State  an  equal  amount  of  circulating  notes.  Previous 
to  the  year  1843  twenty-nine  of  these  banks,  with  an  aggregate  cir- 
culation of  $1,233,374,  had  failed;  and  their  securities,  consisting  of 
stocks  and  bonds  and  mortgages  amounting  to  $1,555,338,  were  sold 
for  $953,371,  entailing  a  loss  of  $601,966.  The  avails  of  the  securities 
were  sufl&cient  to  pay  but  74  per  cent  of  the  circulation  alone.  The 
losses  to  the  bill-holders  occurred  only  in  the  case  of  those  banks  which 
had  deposited  State  stocks  other  than  those  of  New  York.  The  law 
was  thereupon  so  amended  as  to  exclude  all  stocks  except  those  issued 
by  the  State  of  New  York,  and  to  require  these  to  be  made  equal  to  a 
5  per  cent  stock.  An  amendment  in  1848  required  that  the  stocks 
deposited  should  bear  6  per  cent  interest  instead  of  5,  and  that  the 
bonds  and  mortgages  should  bear  interest  at  7  per  cent,  and  should 
be  on  productive  property  and  for  an  amount  not  exceeding  two-fifths 
of  the  value  of  the  land  covered  by  them.  Subsequently,  on  April  10, 
1849,  the  law  was  again  so  amended  as  to  require  that  at  least  one- 
half  of  the  securities  so  deposited  should  consist  of  New  York  State 
stocks,  and  that  not  more  than  one-half  should  be  in  the  stocks  of 
the  United  States,  the  securities  in  all  cases  to  be,  or  to  be  made,  equal 
to  a  stock  producing  an  interest  of  6  per  cent  per  annum,  and  to  be 
taken  at  a  rate  not  above  their  par  value  and  at  not  more  than  their 
market  value.  In  1840  a  law  was  passed  requiring  the  banks  of 
New  York  to  redeem  their  notes  at  an  agency  of  the  bank,  either 
in  New  York  City,  Albany,  or  Troy,  at  one-half  of  i  per  cent  discount. 

The  constitution  of  1846  also  provided  that,  after  the  year  1850, 
stockholders  of  banks  issuing  circulating  notes  should  be  individually 
responsible  to  the  amount  of  their  shares  for  all  debts  and  Uabihties 
of  every  kind,  and  that,  in  case  of  the  insolvency  of  any  bank  or  bank- 
ing association,  the  bill-holders  should  be  entitled  to  preference  in 
payment  over  all  other  creditors;  and  the  constitution,  as  amended 
in  1874,  still  contains  substantially  the  same  provisions. 

After  the  New  York  free-banking  law  had  been  perfected  by 
various  amendments,  and  subseciuent  to  1850,  a  number  of  the  States, 


THE  REGULATION  OF  BANKING  245 

among  which  were  Massachusetts,  Vermont,  Connecticut,  New  Jersey, 
Ohio,  Indiana,  Illinois,  Wisconsin,  Tennessee,  Virginia,  and  Louisiana, 
adopted  the  system  which  had  proved  so  satisfactory  in  New  York. 
The  Massachusetts  and  Louisiana  acts,  in  addition  to  the  many 
excellent  features  of  the  New  York  act,  required  an  ample  reserve 
to  be  kept  on  hand,  and  also  contained  other  restrictions,  which  were 
subsequently  embodied  in  the  national  bank  act.  In  nearly  all  the 
States  which  adopted  the  free-banking  system  charters  for  banks 
were  still  granted  which  authorized  the  issue  of  circulating  notes 
without  security  and  in  excess  of  capital.  These  were  more  profitable, 
and  therefore  in  most  of  the  States  but  few  banks  were  organized 
under  general  laws.  In  other  States  the  best  features  of  the  New 
York  law  were  omitted.  The  shareholders  were  not  made  personally 
liable;  the  security  required  was  not  sufficient ;  the  notes  were  issued 
in  proportion  to  the  stock  and  bonds  deposited  and  not  in  proportion 
to  the  cash  capital;  no  provision  wp-s  made  for  the  prompt  redemption 
of  the  notes  at  any  commercial  center,  and  a  majority  of  the  directors 
and  shareholders  were  frequently  non-residents.  Many  of  the  organ- 
izations were  not  banks,  in  any  true  sense  of  the  word,  but  were 
associations  without  capital,  located  at  places  not  easily  accessible, 
and  owned  by  non-residents,  who  availed  themselves  of  ill-considered 
legislation  to  convert  their  bonds  into  currency  at  rates  higher  than 
the  market  value — drawing  the  interest  on  their  bonds,  but  trans- 
acting little  or  no  business  at  the  place  of  issue.  When  the  bonds 
depreciated  in  value,  and  any  considerable  amount  of  notes  were 
presented  at  their  counters  for  redemption,  the  banks  failed,  the 
securities  were  sold  by  the  authority  of  the  States,  and  the  avails 
were  distributed  among  the  note-holders. 

The  governor  of  Indiana,  referring  to  such  banks,  says  in  his 
message  for  1853:  "The  sj)cculator  comes  to  Indianapolis  with  a 
bundle  of  bank  notes  in  one  hand  and  the  stock  in  the  other;  in 
twenty-four  hours  he  is  on  the  way  to  some  distant  point  of  the 
Union  to  circulate  what  he  denominates  a  legal  currency  authorized  by 
the  legislature  of  Indiana.  He  has  nominally  located  his  bank  in 
some  remote  jxirt  of  the  State,  difficult  of  access,  where  he  knows 
no  banking  facilities  are  required,  and  intends  that  his  notes  shall  go 
into  the  hands  of  persons  who  will  have  no  means  of  demanding  their 
redemption." 

The  New  York  Journal  of  Commerce  in  June,  1853,  referring  to 
the  same  subject,  says:   "The  operators  in  these  schemes  have  turned 


246  PRINCIPLES  OF  MONEY  AND  BANKING 

lo  the  West,  and,  under  the  free-banking  laws  of  Indiana,  lUinois, 
and  Wisconsin,  are  prepared  to  flood  the  channels  of  circulation  with 
their  notes.  It  is  not  western  capital  that  is  seeking  profitable  em- 
ployment, nor  is  it  eastern  capital  invested  at  the  West.  Not  a 
dollar  of  the  new  currency  will  be  issued  where  it  is  likely  to  be  pre- 
sented for  redemption." 

122.    THE  SAFETY-FUND  BANKS^ 
By  JOHN  JAY  KNOX 

The  safety-fund  system  was  recommendeed  by  Mr.  Van  Buren 
in  his  message  as  governor  of  New  York  in  1829,  and  the  act  estab- 
lishing it  passed  the  legislature  and  became  a  law  on  April  2  of  that 
year.  Forty  banks  were  then  in  operation,  and  their  charters  were 
about  to  expire.  It  is  said  to  have  been  suggested  by  a  system  which 
originated  with  the  Hong  merchants  in  China,  by  which  each  member 
contributed  to  uphold  and  cherish  the  weak  members  of  the  Hong. 
The  act  authorized  the  issue  of  circulating  notes  not  exceeding  twice 
the  amount  of  capital  paid  in  and  limited  the  loans  to  twice  and  one- 
half  the  amount  of  the  capital.  The  feature  of  most  importance  in 
the  act  was  the  establishment  of  a  common  fund,  by  a  provision 
requiring  every  banking  corporation  thereafter  organized,  or  whose 
charter  should  be  renewed  or  extended,  to  pay  annually  to  the  treas- 
urer of  the  State  a  sum  equal  to  one-half  of  i  per  cent  of  its  capital 
stock  paid  in,  the  payments  to  be  continued  until  every  such  corpora- 
tion had  paid  into  the  treasury  3  per  cent  upon  its  capital  stock. 
The  fund  thus  created  was  made  applicable  to  the  payment  of  the 
circulation  and  other  debts  of  any  insolvent  bank  contributing  to 
the  same.  If  the  fund  became  at  any  time  diminished  by  payments 
from  it,  each  bank  was  required  to  renew  its  annual  contribution 
until  the  deficiency  was  restored. 

Contributiorts  to  the  fund  were  first  made  in  1831.  In  1841-42 
eleven  of  the  safety-fund  banks  failed,  with  an  aggregate  capital  of 
$3,150,000.  The  sum  which  had  been  paid  into  the  fund  by  these 
banks  was  but  $86,274,  while  the  amount  required  for  the  redemption 
of  their  circulation  was  $1,548,588,  and  for  the  payment  of  claims 
of  their  other  creditors  $1,010,375,  makmg  a  total  of  $2,558,933. 
According  to  the  report  of  the  State  Comptroller,  made  in  1849,  the 
whole  amount  contributed  to  the  fund  down  to  September  30,  1848, 

'  Adapted  from  Report  of  the  Comptroller  of  the  Curreiwy,  1876,  pp.  xxi-x.xii. 


THE  REGULATION  OF  BANKING  247 

was  but  $1,876,063;  and  even  if  full  payments,  as  required  by  law, 
had  been  made  by  all  the  banks  organized  under  the  system,  the  fund 
would  still  have  been  insufficient  to  pay  the  deficiency  occasioned  by 
the  insolvency  of  these  eleven  banks.  This  deficienc>'  was  subse- 
quently provided  for  by  the  issue  of  a  6  per  cent  stock  by  the  State, 
to  be  reimbursed  largely  by  new  contributions  from  the  banks. 
During  the  year  1842  the  act  was  so  amended  that  the  safety-fund 
became  a  security  only  for  the  notes  in  circulation  and  not  for  the 
other  debts  of  the  banks. 

(3)     ASSET  CURRENCY 
123.    THE  ARGUMENT  FOR  ASSET   CURRENCY' 

While  a  bond-secured  circulation  cannot  furnish  an  elastic  medium, 
expanding  and  contracting  automatically,  it  is  quite  otherwise  with  a 
currency  that  is  based  upon  the  general  assets  of  the  issuing  banks. 
The  volume  of  notes  put  forth  under  such  circumstances  will,  like 
deposits,  automatically  expand  in  volume  by  being  issued  upon 
demand  from  legitimate  borrowers  and  automatically  contract  by 
being  returned  to  the  bank  when  the  need  for  the  currency  is  past. 
Under  such  a  system  any  increase  in  the  demand  for  money,  and 
consequent  higher  rate  of  interest,  adds  to  the  inducement  to  issue 
notes  instead  of  making  it  less  profitable,  as  in  the  case  of  bond-secured 
currency. 

There  is,  moreover,  no  delay  or  inconvenience  such  as  exists 
where  bonds  must  be  purchased  and  deposited  with  the  Treasurer 
before  the  notes  can  be  issued.  The  assets  on  which  the  notes  are 
based  are  the  ordinary  commercial  paper  acquired  by  tiie  l^ank  in 
the  course  of  its  regular  business.  The  bank  is  thus  always  ready  to 
increase  its  circulation  if  the  public  will  use  more  notes,  and  all 
considerations  of  profit  lead  it  to  do  so,  as  its  power  to  loan  will  be 
increased  in  proportion  as  it  is  able  to  keep  more  notes  in  circulation. 
The  same  motives  acting  on  all  the  l)anks  lead  to  active  comi)etition, 
which  results  in  the  prompt  redemption  of  all  notes  (lc]Misite(l  or  paid. 
into  any  bank. 

Another  result  of  a  system  of  bank  currency  l)asc(l  on  general 
assets — indeed  a  corollary-  of  what  lias  just  bci-n  stated — is  that  each 
community  is  thereby  enabled  to  furnish  lov  itself  most  easily  and 

'  Adapted  from  Report  of  the  Monetary  Commission  of  the  I ndiauapolis  Con- 
vention, 1898,  pp.  231-34. 


248  PRINCIPLES  OF  MONEY  AND  BANKING 

economically  just  such  currency  as  it  requires  for  the  convenient 
transaction  of  its  business.  The  rural  districts  are  not  forced  to  go 
to  more  expense  in  creating  their  currency — notes — than  are  the 
commercial  centers  in  creating  that  which  they  use — deposits. 

The  only  arguments  which  have  been  seriously  opposed  to  this 
plan  have  been  based  on  the  fear  that  the  security  provided  by 
general  commercial  assets  would  not  be  equal  to  that  afforded  by 
bonds.  The  validity  of  the  objection  depends  entirely  upon  the 
character  of  the  assets.  Of  what,  then,  do  the  ordinary  assets  of 
banks  consist,  and  what  is  their  amount  and  character  ?  These  assets 
are  the  result  of  loans  made  by  the  banks  to  those  carrying  on  the 
business  of  the  country;  they  represent  in  the  main  marketable 
products  or  commodities  in  the  process  of  exchange  or  distribution. 
They  are  made  by  bankers  whose  interest  it  is  to  see  that  they  are 
sound,  inasmuch  as  the  first  loss,  if  any,  must  fall  on  the  bank  and  its 
stockholders.  These  assets,  therefore,  are  based'  on  and  secured  by 
the  best  business  of  the  country;  their  character  rests  on  that  which 
is  a  condition  precedent  to  all  solvency — individual,  corporate,  and 
governmental.  It  is  conceivable  that  a  government  may  become 
bankrupt  while  the  great  portion  of  the  private  business  of  the  country 
remains  solvent;  indeed,  this  has  occurred.  But  it  is  not  conceivable 
that  the  bulk  of  the  private  business  of  a  country  can  become  worth- 
less and  the  government  of  that  country  remain  solvent;  and  this 
has  never  occurred.  These  considerations  make  it  clear  that,  taken 
in  the  aggregate,  there  can  be  no  safer  security  for  bank  notes  than 
that  afforded  by  the  combined  commercial  assets  of  the  issuing  bank. 
No  revulsion  which  has  ever  taken  place  in  this  or  any  other  country 
of  similar  commercial  development  has  been  so  serious  that  it  would 
have  impaired  the  value  of  notes  secured  by  such  assets. 

124.    THE  NEED  OF  A  SYSTEM  OF  REDEMPTION^ 

To  secure  real  elasticity  it  is  not  enough  that  the  circulation 
should  expand  when  the  necessities  of  commerce  require  more  cur- 
rency; it  is  just  as  essential  that  it  should  promptly  contract  when 
those  necessities  have  gone  by.  Under  the  head  of  redemption  it  is 
proposed  to  consider  the  mechanism  by  which  this  withdrawal  of  any 
excessive  currency  is  enforced  and  by  which  the  supply  of  currency  is 
adjusted  to  meet  the  lessened  demands. 

'  Adapted  from  Report  of  the  Monetary  Commission  of  the  Indianapolis  Con- 
vention, 1898,  pp. 324-34. 


THE  REGULATION  OF  BANKING  249 

The  whole  process  is  merely  an  application  by  each  bank  of  a  very 
simple  principle,  the  key  to  which  is  self-interest.  Ever>'  banker  who 
is  free  to  issue  additional  notes  without  inconvenience  or  cost  has 
a  decided  interest  in  withdrawing  from  circulation  the  notes  of  another 
banker  in  order  to  make  room  for  his  own.  This  is  the  force  back  of 
redemption.  Under  a  system  where  every  bank  was  free  to  issue 
notes  up  to,  say,  80  per  cent  of  its  capital — as  free  as  it  would  be  to 
receive  deposits — is  it  conceivable  that  a  bank  whose  issues  were  only 
50  per  cent  of  its  capital,  upon  receiving  on  deposit  the  notes  of 
another  bank,  would  pay  them  out  again  ?  Why  should  it  ?  For  any 
purpose  for  which  a  bank  note  will  serve — such  as  the  cashing  of  a 
check,  or  the  discount  of  a  note,  or  the  grant  of  a  loan — its  own  notes 
can  be  used  without  cost  to  itself.  So  it  naturally  pays  out  its  own 
notes  and  presents  the  others  for  redemption,  thus  adding  to  its  cash 
reserve. 

Under  such  a  system  a  banker  whose  issues  had  not  approached 
the  80  per  cent  limit  would  no  more  think  of  allowing  the  notes  of 
another  bank  to  remain  idle  on  his  hands  or  to  be  paid  out  again 
where  his  own  notes  could  be  used  than  he  would  today  of  holding 
checks  on  that  bank  just  because  he  considers  them  good,  or  of 
voluntarily  or  gratuitously  transferring  to  such  bank  a  portion  of 
his  customers'  deposits.  Such  an  act  would  in  fact  be  a  loan 
without  interest  to  that  other  bank  for  the  length  of  time  the  note 
was  held,  or  (being  put  into  circulation)  for  the  time  it  might 
be  expected  to  remain  outstanding,  and,  under  a  system  of  com- 
parative freedom  of  note-issue,  would  be  the  grossest  disregard  of 
business  principles. 

It  is  in  this  way  that,  under  any  banking  system  sufficiently 
liberal  in  terms  to  permit  adequate  expansion,  there  is  sure  to  be 
sufficient  incentive  to  retirement  to  keep  the  outstanding  volume  of 
note  issues  down  to  the  needs  of  business.  In  other  words,  there  is  a 
very  close  connection  between  the  ease  or  difficulty  of  issuing  notes 
and  the  activity  and  efficiency  of  the  redemption  system.  The  devel- 
opment of  the  latter  is  dependent  almost  entirely  upon  the  existence 
of  a  system  of  issues  sufficiently  liberal  to  permit  ex])ansit)n  even 
beyond  the  needs  of  business,  for  it  is  only  then  that  the  c«)miK'lilion 
of  the  banks  for  a  legitimate  profit  will  furnish  the  incentive  which 
lies  behind  a  system  certain  to  withdraw  redundant  currency.  When 
the  notes  arc  no  longer  wanted  by  the  jniblic  for  the  convenient  trans- 
action of  its  business,  they  will  be  dciK)sited  in  some  bank,  and  ai= 


250  PRINCIPLES  OF  MONEY  AND  BANKING 

soon  as  they  are  thus  deposited  they  will  be  put  on  the  road  to  redemp- 
tion and  retirement  through  the  operation  of  the  principles  described 
above. 

The  function  of  a  system  of  active  note  redemption  as  a  regulator 
of  the  character  of  the  currency  as  well  as  of  its  volume  also  demands 
consideration.  It  is  only  when  the  value  of  a  promise  to  pay  money 
is  being  constantly  put  to  test  that  there  exists  the  danger  of  its 
depreciation.  And  it  is  through  redemption,  in  the  case  of  a  bank 
currency,  that  this  test  is  made.  Where  no  real  redemption  exists, 
there  may  be  danger  of  expansion,  since  the  most  powerful  agency 
in  keeping  down  the  supply  of  currency  to  the  amount  demanded  and 
keeping  its  character  up  to  the  standard  is  absent;  but  where  the 
notes  are  being  constantly  tested  by  their  presentation  for  redemption, 
none  can  be  kept  in  circulation  which  are  not  up  to  the  standard,  and 
no  more  can  be  issued  than  the  public  wishes  to  use.  And  to  place 
impediments  in  the  way  of  quick  redemption  is  practically  to  affect 
the  value  of  the  currency — to  lower  it,  to  some  extent,  from  the 
standard  to  which  it  should  conform. 

In  Canada  the  banks  are  left  perfectly  free  to  issue  notes  as  they 
may  think  best  up  to  the  limit  imposed  by  law — the  par  of  their  capi- 
tal. Each  banker,  as  the  only  means  by  which  the  field  can  be  kept 
clear  for  his  own  circulation,  regularly  sends  in  for  settlement  the  notes 
of  his  neighbors  precisely  as  he  does  their  checks.  If  the  notes  are 
those  of  a  bank  having  a  branch  in  the  same  town,  he  sends  them  to 
that  branch  for  settlement;  if  not,  he  sends  them  to  the  most  conven- 
ient town  containing  both  a  branch  of  his  bank  and  a  branch  of  the 
bank  whose  notes  he  wishes  to  present  for  redemption.  Except  in 
those  occasional  instances  where  the  legal  limit  of  circulation  has  been 
reached,  the  paying  out  by  one  bank  of  the  note  of  another  is  regarded 
in  Canada  as  an  instance  of  grossest  disregard  of  business  principles. 
The  result  of  this  universal  attitude  of  the  Canadian  banks  in  con- 
stantly insisting  upon  daily  redemption  of  notes  is  that  any  issue 
beyond  the  current  needs  of  business  soon  reaches  the  tills  of  some 
bank,  by  which  it  is  promptly  presented  for  redemption. 

It  should  be  noted  in  this  connection  that  the  redemption  involved 
is  of  the  nature  of  a  clearing-house  transaction.  It  is  very  rare  that 
the  notes  of  a  bank  are  presented  to  it  for  redemption  in  actual  coin. 
For  as  the  notes  are  thoroughly  secure,  the  public  has  no  reason  to 
prefer  gold  or  a  Dominion  note  to  the  note  of  a  Canadian  bank.  So 
that  the  only  redemption  is  that  forced  by  the  banks  themselves; 


THE  REGULATION  OF  BANKING  251 

and  this,  where  there  are  clearmg-houses,  takes  place  through  them, 
and  elsewhere  by  exchanges  between  individual  banks — in  which 
latter  case  balances  are  settled  sometimes  by  Dominion  notes,  but 
ordinarily  by  draft  upon  the  head  oflace.  It  appears  from  the  best 
evidence  obtainable  that,  on  the  average,  the  life  of  the  notes  of  a 
Canadian  bank  is  not  far  from  thirty  days.  In  other  words,  the 
entire  circulation  is,  on  an  average,  redeemed  twelve  times  over  in 
the  course  of  a  year. 

The  most  interesting  feature  of  the  banking  experience  of  New 
England  was  the  system  of  bank-note  redemption  which  was  there 
developed — the  SulTolk  Bank  system — taking  its  name  from  the  Imnk 
which  acted  as  the  redeeming  agent. 

Prior  to  the  inauguration  of  the  system,  in  1824,  the  notes  of 
banks  situated  at  some  distance  from  Boston  were  received  only  at  a 
discount  by  the  Boston  banks.  This  was  usually  only  sufficient  to 
cover  the  expense  involved  in  sending  the  notes  home  for  redemption, 
and  in  later  years  it  rarely  exceeded  one-half  of  i  per  cent  for  the  bills 
of  Massachusetts  banks.  This  discount,  however,  although  slight, 
allowed  the  bills  of  the  country  banks  to  circulate  in  Boston  to  the 
exclusion  of  those  of  the  Boston  banks,  which,  being  redeemable  on 
the  spot,  remained  at  \)av.  So  long  as  the  issuing  countr>'  banks  were 
known  to  be  solvent,  their  notes  passed  readily  from  hand  to  hand  in 
ordinary  business  transactions,  although  at  the  banks  they  were  not 
accepted  at  par.  Persons  having  payment  to  make  at  a  Boston  bank, 
therefore,  found  it  advisable  to  lay  aside  for  that  puq^ose  any  notes  of 
Boston  banks  which  might  come  into  their  hands,  as  such  notes  and 
specie  were  the  only  forms  of  currency  accepted  at  par  by  the  banks. 
The  outside  notes,  however,  which  were  readily  accepted  in  business, 
were  paid  out  again  by  the  merchants,  and  thus  kept  in  circulation. 
The  consequence  was  that  the  field  of  circulation,  even  in  Boston, 
was  monopolized  by  the  notes  of  outside  banks,  on  the  principle  that 
the  cheaper  money  drives  out  the  dearer. 

It  was  to  remedy  this  state  of  affairs,  by  insisting  upon  the  main- 
tenance of  all  the  currency  at  par,  that  the  SulTolk  Bank  system  was 
inaugurated.  The  general  arrangement  made  between  the  Suffolk 
Bank  and  the  other  banks  of  New  England,  which  were  soon  drawn 
into  the  system,  was  as  follows: 

Each  bank  placed  with  the  SulTolk  a  permanent  dc]x)sit  of  $2,000 
and  upward  without  interest — the  amount  dcj^cnding  upon  the 
capital  and  business  of  the  bank.     In  consideration  of  this  deix)sit, 


252  1'ki\('Iimj:s  of  monky  and  banking 

the  Suffolk  Jiank  redeemed  all  the  IjIUs  of  Ihal  bank  which  might 
come  to  it  from  any  source,  charging  the  redeemed  bills  to  the  issuing 
bank  once  a  week,  or  whenever  they  amounted  to  a  certain  fixed  sum, 
provided  that  the  bank  kept  a  sufficient  amount  of  funds  to  its  credit, 
independent  of  the  permanent  deposit,  to  redeem  all  of  its  bills  which 
should  come  into  the  possession  of  the  Suffolk  Bank.  It  was  further 
agreed  that  the  Suffolk  Bank  should  receive  from  any  of  the  New 
England  banks  which  kept  an  account  with  it  the  bills  of  any  other 
New  England  bank  in  good  standing,  placing  them  to  the  credit  of 
the  bank  sending  them  on  the  day  following  their  receipt.  When  any 
bank  refused  to  join  the  Suffolk  Bank  system,  the  Suffolk  Bank 
merely  presented  its  notes  for  payment  in  specie  at  its  counter.  In 
such  cases  notes  of  other  banks  would  not  be  accepted  in  redemption. 

This  practice  united  practically  all  the  banks  of  New  England, 
and  in  a  large  measure  insured  the  prompt  redemption  of  their  notes 
at  par  at  all  times  in  Boston.  Inasmuch  as  this  city  was  the  center 
of  the  commercial  interests  of  New  England  and  because  Boston  funds 
were  at  par  elsewhere,  a  note  which  could  be  used  at  par  in  remittances 
to  Boston  was  never  depreciated  in  any  part  of  New  England. 

At  first  there  was  much  hostility  to  the  system  on  the  part  of  some 
of  the  banks.  They  objected  strenuously  to  the  necessity  imposed 
on  them  of  making  arrangements  for  the  redemption  of  their  notes  at 
Boston,  and  occasionally  a  bank  seceded  from  the  system  in  the  hope 
of  getting  an  increased  circulation.  In  such  cases,  however,  it  at 
once  appeared  that  its  circulation  was  then  limited  to  the  immediate 
vicinity  of  the  place  of  issue,  and  the  inconvenience  and  loss  of 
confidence  resulting  led  to  a  renewal  of  the  agreement.  In  general, 
it  was  the  practice  of  each  bank  to  gather  together  the  bills  of  all  the 
other  banks  paid  over  its  counter  and  include  them  in  its  weekly 
remittance  of  its  own  bills.  In  this  way  there  was  very  little  necessity 
for  redemption  in  specie,  the  Suffolk  Bank  merely  acting  as  a  clearing- 
house where  the  notes  of  one  bank  were  offset  against  those  of  the 
others. 


THE  REGULATION  OF  BANKING  253 

(4)    BANK  NOTES  UNDER  THE  NATIONAL  'BANKING 

SYSTEM 

125.    REASONS  FOR  ESTABLISHING  THE  NATIONAL 
BANKING  SYSTEM' 

By  ANDREW  McFARLAND  DAVIS 

IMr.  Sherman  advocated  the  bill  because  it  would  furnish  a  uni- 
form currency;  because  it  would  create  a  market  for  bonds;  because 
through  the  sale  of  bonds  thus  elTected  the  nation  would  be  consoli- 
dated; because  it  would  furnish  depositories  for  public  funds,  and 
because  the  bills  could  be  used  in  payment  of  taxes.  Greenbacks  he 
considered  not  suitable  for  the  desired  uniform  currency,  because 
they  were  liable  to  inflation.  The  more  of  them  that  were  put  out 
the  greater  had  been  the  emissions  of  state  banks.  "The  consequence 
has  been,"  he  said,  "that  while  the  Government  has  been  issuing 
its  paper  money,  some  of  the  banks  have  also  been  inflating  the 
currency  by  issuing  paper  money  on  the  basis  of  United  States  money. 
There  is  no  way  to  check  this  except  by  one  uniform  currency  system." 
What  benefit,  he  asked,  does  the  United  States  obtain  from  this 
system?  "The  first  benefit  is,  there  is  a  market  furnished  for  the 
bonds  of  the  United  States.  Then  banks  must  furnish  10  per  cent 
more  of  the  bonds  of  the  United  States  than  they  receive  in  paper 
money.  This  at  once,  if  the  full  amount  is  issued,  which  I  do  not 
anticipate  within. a  year,  will  furnish  a  market  for  $330,000,000  of 
bonds,  and  we  know  very  well  by  the  laws  of  supply  and  demand  that 
where -a  demand  is  made  for  a  given  article  the  demand  extends  far 
beyond  the  particular  want."  He  thought  the  passage  of  the  bill 
would  "promote  a  sentiment  of  nationality,"  the  want  of  which  was 
one  of  the  evils  of  the  times. 


126.    EVILS  OF  NON-UNIFORJSI  ISSUES* 
By  ANDREW  McFARLAND  DAVIS 

The  Chicago  Tribune  on  Februar}'  13,  1863,  states  that  "Every 
one  of  the  1,395  banks  in  the  loyal  states  has  its  separately  engraved 
and  printed  notes,  differing  more  or  less  in  form  or  design  pictorially, 

»  Adapted  from  The  Origin  of  the  National  Banking  System,  pp.  79-80.    (Na- 
tional Monctar>'  Commission,  19 10.) 
'Ibid.,  pp.  25-26. 


254  PRINCII'LKS  OF  MONF.Y  AND  HANKIXC 

and  each  bank  issues  the  various  denominations  which  by  usage  seem 
to  have  become  the  rule. 

"Taken  together,  each  bank  issues  bills  of  at  least  six  different 
denominations.  The  1,395  banks  therefore  issue  8,370  varieties  of 
notes,  which  people  are  expected  to  distinguish  from  counterfeits. 
Moreover,  the  varied  issues  of  the  fraudulent,  broken,  and  worthless 
banks  should  not  be  overlooked.  Of  this  class  of  'retired'  banks,  as 
they  were  styled,  854  are  enumerated  in  the  published  list  furnished 
by  the  'descriptive  list'  for  January,  1863.  Such  as  these  have  there- 
fore contributed  their  quota  to  this  promiscuous  catalogue. 

"One  phase  of  our  paper  currency  engendered  by  this  multiform 
system  calls  for  special  notice  and  consideration.  We  refer  to  counter- 
feiting. It  may  be  safely  stated  that  the  art,  as  pursued  in  the  United 
States,  is  without  parallel,  and  that,  without  vaunt  or  hyperbole,  we 
can  'beat  the  world'  on  this,  our  national  specialty — counterfeiting. 
A  species  of  literature,  even  unknown  to  the  rest  of  the  world,  has  been 
initiated  among  us,  and  no  merchant  or  mechanic  deems  himself 
safe  unless  he  consults  the  Counterfeit  Detector.  The  absolute  facts,  as 
detailed  by  those  interested  in  keeping  the  record  of  counterfeits, 
appear  monstrous  and  fabulous  even  beyond  credence.  Of  the  various 
kinds  it  is  estimated  that  there  are  about  six  thousand.  Of  the  vari- 
ous species  of  'counterfeits,'  as  they  are  called,  it  is  ascertained  that 
but  a  small  part  of  those  in  circulation  is  composed  of  bona  fide 
imitations  of  the  genuine  notes.  Those  known  as  alterations  number 
highest.  One  cause  of  this  multiplicity  of  altered  notes  is  attributable 
to  the  similarity  of  titles  among  banks  in  different  sections  of  the 
country.  As,  for  instance,  we  find  27  Union  banks,  of  which  7  are  in 
the  State  of  New  York.  A  yet  further  aid  to  'alterations'  is  in  the 
frequent  use  of  the  same  devices  on  notes  of  different  banks,  and  often 
of  different  banks  of  the  same  name." 

Although  the  picture  is  drawn  at  a  later  date  than  that  which  we 
are  at  present  considering,  nevertheless  it  is  equally  true  for  the  year 
1 86 1,  and  must  be  accepted  as  such. 

A  writer  in  the  Bankers^  Magazine,  in  November,  1862,  stated 
that  experienced  New  York  bankers  and  a  former  bank-note  engraver 
were  unable  to  detect  certain  fraudulent  notes.  His  conclusion  was: 
"If  experts  such  as  bank  tellers  and  bank-note  engravers  are  so 
readily  deceived  by  well-executed  fraudulent  bills,  it  cannot  be 
expected  that  merchants,  traders,  and  others  will  be  prepared  to 
detect  such  frausis." 


THE  REGULATION  OF  BANKING  255 

127.    THE  PROTEST  AGAINST  NATIONAL  BAKK  ISSUES' 
By  HORACE   BOIES 

"Whom  the  gods  would  destroy  they  first  make  mad." 

The  currency  of  a  country  is  the  Ufeblood  of  its  business  interests. 

Taint  it  in  a  single  artery  or  a  lesser  vein  and  the  whole  system 
is  diseased. 

Our  national  banking  system  was  the  offspring  of  a  naked  treasury 
and  overwhelming  debt. 

Through  all  the  years  of  its  existence  it  has  been  nursed  and 
fondled  by  indulgent  representatives  of  a  great  republic. 

It  was  conceived  in  one  of  the  darkest  hours  of  the  nation's 
financial  history,  the  child  of  an  overpowering  necessity  that  could 
stop  at  nothing  but  some  form  of  national  relief. 

In  its  swaddling  clothes  it  was  a  meek  and  pleading  thing,  grateful 
for  any  crumbs  that  fell  from  its  master's  table.  Today  it  is  the  auto- 
crat of  all  the  states.  It  no  longer  stands  at  the  doors  of  Congress 
asking  alms  at  its  hands. 

It  comes  as  a  victor  now,  with  all  its  plans  matured,  its  measures 
formulated  by  a  little  coterie  of  men  within  its  folds,  dictates  such 
changes  in  the  nation's  laws  as  its  own  selfish  interests  require,  and  a 
fawning  majority  of  a  committee  in  Congress,  to  which  its  measures 
are  referred,  hasten  to  obey  its  will. 

By  the  original  act  authorizing  the  incorporation  of  national 
banks  each  of  these  institutions  was  required  to  purchase  and  deposit 
with  the  Secretary  of  the  Treasury,  to  be  held  by  the  go\-ernment  as 
security  for  the  payment  of  its  outstanding  notes,  United  States 
bonds.  These  bonds  were  interest-bearing  obligations  of  the  govern- 
ment, the  interest  on  which  was  paid  to  the  banks  the  same  as  it  was 
paid  to  other  holders  of  like  securities. 

Upon  such  deposit  the  bank  was  authorized  to  issue  and  put  in 
circulation  as  money  its  own  notes  up  to  90  per  cent  of  the  face  value 
of  the  bonds  deposited. 

To  secure  the  prompt  redemption  of  its  notes  on  demand  each  bank 
was  also  required  to  keep  on  hand  a  reserve  /;/  laujul  money  of  the 
United  States  equal  to  25  per  cent  of  its  own  outstanding  notes. 

The  effect  of  these  provisions  was  to  enable  a  private  corporation 
to  coin  the  credit  of  the  nation  into  something  that,  for  every  practical 

'  Adapted  from  "Why  Not  Government  Currency?"  Moody's  Maf^azine,  HI 
(1906-7),  299-300. 


256  PRINCIPLES  OF  MONEY  AND  BANKING 

use  of  its  own,  was  money  at  the  ratio  of  $4  for  every  $1  of  its  own 
money  it  was  required  to  lock  up  in  its  own  vaults. 

The  same  provisions  authorized  the  bank  to  receive  the  money  of 
others,  invest  it  as  its  oflScers  saw  fit,  subject  only  to  the  requirement 
that  it  should  keep  on  hand  in  its  own  vaults  25  per  cent  of  these 
deposits,  in  lawful  money,  with  which  to  meet  demands  of  depositors 
for  their  money  as  the  same  were  made. 

They  accomplished  this  further  end.  They  withdrew  from  cir- 
culation the  legal  tender  money  of  the  country  equal  to  2 5. per  cent  of 
the  outstanding  bills  of  all  the  national  banks  of  the  country  there- 
after to  be  organized,  and  25  per  cent  also  of  all  deposits  in  all  of  these 
banks,  and  left  the  enormous  vacuum  occasioned  by  such  withdrawals 
to  be  filled  by  the  notes  of  these  banks,  and  in  no  other  possible  way. 
On  the  24th  of  September  last,  as  shown  by  the  report  of  the  Comp- 
troller of  the  Currency,  the  aggregate  of  these  deposits  was  almost 
five  billions  of  dollars,  requiring  a  withdrawal  from  circulation  of  the 
legal  tender  money  of  the  country  of  nearly  $1,250,000,000. 

But,  liberal  as  these  provisions  were,  they  did  not  satisfy  these 
corporations.  They  first  asked  and  obtained  from  Congress  leave  to 
invest  their  own  notes  up  to  the  face  value  of  the  bonds  they  had 
deposited,  and  they  then  asked  and  obtained  leave  to  withdraw  their 
reserve  of  25  per  cent  of  their  outstanding  notes  that  they  might 
utilize  the  same  to  the  best  advantage  possible,  instead  of  having  it 
tied  up  in  their  own  vaults. 

When  they  had  accomplished  this  they  had  not  a  dollar  invested 
in  their  business  that  was  not  interest-bearing,  payable  to  themselves, 
and  they  had  appropriated  sufl&cient  of  the  nation's  credit  to  enable 
them  to  issue  and  put  in  circulation,  as  money,  a  sum  of  their  own 
notes  equal  to  the  entire  face  value  of  the  bonds  they  had  deposited, 
upon  which  bonds  they  were  annually  collecting  interest  from  the 
government. 

They  had  also  made  the  national  bank  note  credit  money  only,  as 
pure  and  simple  as  ever  the  old  discarded  greenback  was  such  money, 
for  all  they  had  added  as  security  to  the  greenback  of  old  was  the 
individual  credit  of  the  private  corporation  that  issued  the  notes. 

How  little  this  amounted  to  in  a  practical  way  is  evidenced  by 
the  well-known  fact  that  no  man,  wherever  located,  stops  for  an 
instant  to  inquire  by  what  corporation  a  national  bank  note  offered 
him  is  issued.  It  is  sufficient  for  all  to  know  that  behind  each  of  these 
notes,  wherever  or  by  whomsoever  issued,  stands  the  credit  of  this 


THE  REGULATION  OF  BANKING  257 

great  nation,  pledged  for  its  redemption  if  the  bank  issuing  it  fails  to 
redeem  it. 

128.    DOUBLE  PROFIT  ON  BANK-NOTE  ISSUES' 
By  R.  W.  JONES 

The  government  bonds  upon  which  the  bank  notes  are  issued 
are  safely  deposited  in  the  United  States  Treasury.  The  bankers 
draw  coin  interest  on  these  bonds  from  the  Government  and  pav  no 
taxes  upon  them.  The  Government  allows  them  to  issue  about  90 
per  cent  of  the  amount  of  their  bonds  in  notes,  thus  without  any  cost 
to  the  banks  except  the  tax  on  their  issues  increasing  their  interest- 
bearing  capital  90  per  cent.  In  other  words,  upon  a  capital  of  Sioo,- 
000,000  they  can  reap  profits  from  $190,000,000.  They  lend  at  from 
8  to  12  per  cent  interest.  The  people  pay  them  on  their  bonds  from 
5  to  6  per  cent  interest.  Thus  the  people  pay  from  13  to  18  per  cent 
interest  to  the  national  banks  on  every  dollar  of  "Blackbacks"  in 
circulation.  Besides  this  the  Government  coins  and  issues  to  the 
banks  their  notes  free  of  charge.  The  Government  must  also  settle 
up  the  business  of  every  broken  bank.  This  is  a  useless  and  extrava- 
gant system,  calculated  to  concentrate  wealth  and  rapidly  enrich  the 
money  power  of  the  country  at  the  expense  and  by  the  oppression  of 
the  people. 

129.    ANALYSIS  OF  PROFIT  ON  BANK-NOTE  CIRCULATION* 

It  has  been  assumed  by  those  not  fully  informed  on  the  subject 
that  the  issue  of  national  bank  circulation  is  attended  by  a  large 
profit;  that  is,  that  the  banks  receive  the  fijced  interest  on  the  bonds 
deposited  as  security  for  circulation  and  current  rates  of  interest  on 
the  total  amount  of  notes  received,  making  their  net  prolit  the  sum 
of  these  two  returns.  The  fact,  however,  that  the  volume  of  circula- 
tion outstanding  is  approximately  only  70  per  cent  of  the  maximum 
issuable — that  is,  an  amount  equal  to  the  paid-in  capital  stock  of 
the  banks — is  evidence  that  the  circulation  franchise  is  not  as  profit- 
able as  would  appear. 

Below  is  given  a  compulation  made  by  the  Actuary  of  the  Treasury 
Department  of  the  profit  on  circulation,  based  upon  the  deposit  of 
$100,000  of  the  various  classes  of  bonds  available  at  the  average  net 

■  Adapted  from  .\foney  is  Power,  pp.  44-45-     (Davis  &  FrccRard,  1878.) 
'Adapted  from  Report  of  Comptroller  of  the  Currency,  191 1,  p.  la. 


258  PRINCIPLES  OF  M(JNI-:Y  AND  BANKING 

price.  By  reference  to  this  table  it  will  be  noted  that  money  is 
assumed  to  be  worth  6  per  cent.  From  the  gross  receipts,  that  is, 
interest  on  the  bonds,  and  the  interest  on  $100,000  circulation  loaned, 
at  6  per  cent,  deductions  are  made  for  the  tax  on  circulation,  expenses 
incident  to  redemptions,  shipments  of  currency,  etc.,  and  the  sinking 
fund,  to  show  the  net  receipts.  The  actuary  then  computes  the 
interest  on  the  cost  of  the  bonds  at  6  per  cent,  the  difference  between 
this  amount  and  the  net  receipts  being  the  net  profit  to  the  bank. 

Two  per  cent  consols  of  1930  were  at  the  highest  average  net  price 
in  March  last,  and  as  a  result  the  profit  on  circulation  was  at  the 
lowest  point,  namely,  1.296  per  cent.  These  bonds  were  at  the  lowest 
point  in  July,  namely,  100.250,  when  the  profit  on  circulation  is 
shown  to  have  been  1.412.  The  highest-priced  Government  issues 
are  the  4  per  cent  bonds  of  1925,  and  were  held  at  116.86  in  January 
last,  when  the  profit  on  circulation  was  0.986  per  cent.  At  the  market 
price  of  114. 134,  in  August  last,  the  profit  on  circulation  was  at  its 
maximum,  namely,  1.226  per  cent.  The  Panama  Canal  bonds  of 
19 16  sold,  on  an  average,  in  August  last,  at  100.303,  when  the  profit 
on  circulation  was  1.410  per  cent.  The  highest  average  price  during 
the  year  for  these  bonds  was  101.250,  in  April  last,  and  the  percentage 
of  profit  on  circulation  1.325. 

Consols  of  1930.    January,  191  i 

Cost  of  bonds $101,125.00 

Circulation  obtainable 100,000.00 

Receipts 

Interest  on  bonds $2,000 

Interest  on  circulating  notes 6,000 

Gross  receipts $8,000.00 

Deductions 

Tax $    500.00 

Expenses 62.50 

Sinking  fund 32.00 

Total $594.  50 

Net  receipts 7,540.50 

Interest  on  cost  of  bonds  at  6  per  cent 6,067.50 

Profit  on  circulation  in  excess  of  6  per  cent $1,338.00 

Percentage  excess  profit 1.388 


VII 
THE  FEDERAL  RESERVE  SYSTEM 

Introduction 

The  Federal  Reserve  System  in  which  our  national  banks  are 
now  organized  was  inaugurated  by  the  Federal  Reserve  Act  of  Decem- 
ber 23, 1913.  For  fifty  years  our  banks  had  been  operating  under  the 
national  banking  law  that  had  been  passed  during  the  Civil  War. 
This  act  gave  us  a  safe  and  uniform  bank-note  currency,  and  in 
other  ways  it  constituted  so  substantial  an  improvement  over  the  con- 
ditions that  had  existed  prior  to  the  war  that  we  were  long  loath  to 
tamper  with  it  seriously.  While  defects  were  early  revealed,  they  ap- 
peared in  the  main  to  be  of  such  a  nature  as  required  amendment 
merely,  rather  than  thoroughgoing  revision. 

But  the  panic  of  1893  revealed  serious  shortcomings  in  the 
national  banking  system.  It  was  found  that  the  great  dearth  of 
money  that  developed  could  not  be  relieved  by  an  increase  in  that 
element  of  our  currency  system  to  which  we  must  look  for  elasticity, 
namely,  the  bank  notes,  and  it  became  necessary  for  the  clearing- 
house associations,  and  even  private  businesses,  to  issue  a  wide 
variety  of  substitutes  for  cash.  The  same  phenomenon  had  of  course 
been  manifested  in  1873,  but  the  nature  of  the  difTiculty  was  not  so 
generally  understood  at  that  time.  It  also  became  apparent  in  1893 
that  in  consequence  of  inadequate  and  rapidly  dissipating  reserves 
our  banks  were  unable  to  expand  their  loans  to  meet  the  needs  of  a 
crisis. 

The  result  of  the  experience  of  1893  was  the  advancement  of  ilic 
Baltimore  plan  of  currency  reform,  which  was  modeled  after  the 
Canadian  system  of  issuing  currency  protected  by  a  joint  guaranty 
fund  to  which  all  the  banks  contribute.  Nothing  came  of  the  plan, 
however,  the  silver  issue  of  the  time  forcing  all  otlicr  financial  matters 
into  the  background.  Again,  in  1898  tlic  Indianapolis  Monetary 
Commission,  after  a  thorough  survey  of  the  banking  and  currency 
prol}lem,  suggested  some  substantial  amendments  to  existing  cur- 
rency legislation,  among  which  was  the  issue  of  bank  notes  inured 

259 


26o  PRINCIPLES  OF  MONEY  AND  BANKING 

upon  commercial  paper,  or  asset  currency.  However,  the  Spanish- 
American  War  diverted  our  attention  to  problems  of  international 
policy,  while  the  long  period  of  prosperity  which  followed  caused  us 
in  the  main  to  forget  the  question  of  banking  reform.  However,  the 
act  of  1900,  in  providing  that  national  banks  might  thereafter  issue 
notes  up  to  the  par  value'  of  bonds  deposited  as  security,  gave  us  a 
rapid  exj^ansion  of  bank-note  currency;  but  it  did  nothing  to  provide 
the  necessary  elasticity. 

The  disastrous  panic  of  1907  thoroughly  aroused  the  country 
to  the  imperative  need  of  banking  reform.  It  was  observed  that 
whereas  other  countries  were  equally  subject  to  periodic  fluctua- 
tions of  commerce  and  trade  the  United  States  appeared  to  be  the  only 
nation  in  which  the  banking  machinery  was  incapable  of  alleviating 
the  conditions  that  developed  in  time  of  crisis.  Strong  pressure, 
partly  political,  was  brought  on  Congress  to  pass  some  emergency 
legislation.  After  a  very  brief  study  of  the  problem  Congress  passed 
the  Aldrich-Vreeland  Act  of  1908,  which  provided  for  the  issue  of 
emergency  notes  in  time  of  stress  through  groups  of  banks  in  various 
communities  organized  into  national  currency  associations.  This 
currency  could  be  based  in  part  on  commercial  paper,  and  thus  for 
the  first  time  we  secured  legal  permission  for  an  asset  currency. 
Moreover,. good  service  was  rendered  by  this  act  at  the  outbreak  of 
the  European  war,  just  prior  to  the  inauguration  of  the  Federal 
Reserve  System.  The  Aldrich-Vreeland  law,  however,  was  confess- 
edly a  temporary  measure,  its  final  clause  authorizing  the  appointment 
of  the  National  Monetary  Commission  and  making  appropriation 
for  a  thoroughgoing  study  of  the  entire  banking  problem. 

The  movement  for  banking  reform  then  rapidly  developed.  The 
National  Monetary  Commission  in  its  investigation  drew  upon  the 
experience  of  the  entire  world,  and  a  vast  Hterature  on  the  subject 
was  collected  and  published — nearly  fifty  volumes  in  all.  Meanwhile 
numerous  independent  students  were  analyzing  the  problem,  with  the 
result  that  the  various  weaknesses  of  the  national  banking  system, 
as  indicated  in  our  previous  chapter,  were  clearly  revealed.  A  large 
number  of  comprehensive  plans  of  reform  were  also  put  forward,  many 
of  them  as  bills  in  Congress,  and  others  in  the  form  of  monographs 
by  commercial  associations  and  independent  students  of  the  question. 

'  To  market  value,  only,  when  market  value  is  less  than  par. 


THE  FEDERAL  RESERVE  SYSTEM  261 

It  remained,  however,  for  the  Aldrich  bill,  growing  out  of  the  work  of, 
and  indorsed  by,  the  National  Monetary  Commission,  to  bring  us  to 
close  quarters  with  the  problem.  The  Aldrich  plan,  which  was  pre- 
sented to  Congress  early  in  191 1,  was  discussed  the  country  over  per- 
haps more  thoroughly  than  any  other  measure  ever  before  Congress. 
The  bill  is  generally  conceded  to  have  had  many  excellent  provisions; 
many  of  them,  indeed,  subsequently  became  embodied  in  the  Federal 
Reserve  Act.  But  the  prevalent  distrust  of  !Mr.  Aldrich  in  conse- 
quence of  his  unsavory  reputation  on  tariff  matters,  together  with  the 
fact  that  his  proposal  was  undoubtedly  a  ver>'  strongly  centralizing 
measure,  made  its  enactment  into  law  a  political  impossibility,  espe- 
cially after  the  coming  of  the  Democrats  to  power  in  191 2. 

The  Federal  Reserve  Act  is  an  outgrowth  of  the  Aldrich  plan, 
though  modified  in  numerous  details  and  in  some  very  important 
respects.  Passed  with  unusual  expedition  by  a  newly  organized  and 
inexperienced  Congress,  the  measure  was  ver>'  generally  distrusted  by 
the  financial  interests  of  the  country  while  it  was  pending.  It  was 
held  by  many,  indeed,  that  it  would  wreck  the  national  banking  sys- 
tem, if  not  the  country  itself.  After  the  passage  of  the  act,  however, 
as  soon  as  time  had  permitted  a  study  of  the  provisions  of  the  law,  it 
became  apparent  that  an  extraordinary  piece  of  legislation  had  been 
enacted;  and  practically  all  parties  promptly  rallied  to  its  support. 
The  act  now  appears  to  be  one'  of  the  wonders  of  American  legisla- 
tion; it  seems  almost  inconceivable  that  a  measure  containing  so  much 
of  solid  achievement  and  so  little  of  weakness  could  have  come  out 
of  Washington.  It  is  important  to  reflect,  however,  that  the  funda- 
mental principles  underlying  the  new  system  were  developed  out  of 
the  innumerable  discussions  of  the  subject  that  had  been  taking  place 
for  years.  It  nevertheless  remains  a  remarkable  coincidence  that 
the  principles  thus  scientifically  developed  should  have  been  in  so 
admirable  a  manner  incorporated  into  law. 

The  new  system  has  now  been  in  operation  for  nearly  two  years, 
and  it  appears  to  have  justified  the  confidence  that  has  been  reposed 
in  it.  It  will  of  course  require  many  years  to  test  the  measure  fully; 
but  already  the  business  of  the  country'  is  being  adjusted  to  the 
changed  conditions.  Whether  tlie  act  permanently  accomplishes  all 
that  its  supporters  hojie,  it  is  already  clear  that  we  shall  never  g<i  back 
to  the  old  order,  and  that  the  inauguration  of  the  Federal  Reserve 
System  marked  tlie  beginning  of  a  new  era  in  .American  banking. 


:62  PRINCIPLES  OF  MONEY  AND  BANKING 

A.     General  Description  of  the  System 

130.  THE  CREATION  OF  THE  FEDERAL  RESERVE  SYSTEM- 
By  C.  W.  BARRON 

Next  to  the  Declaration  of  Independence  and  the  Constitution  of 
the  United  States  the  Federal  Reserve  Act,  signed  by  President 
Wilson  December  23,  1913,  may  be  the  most  important  measure  ever 
placed  before  the  people  of  these  United  States.  Upon  its  wise 
administration  depends  the  good  or  ill  of  a  hundred  million  people, 
and  as  a  nation  we  shall  probably  live  under  it,  not  only  for  the  twenty 
years  named  in  the  act,  but,  with  amendments  found  necessary  from 
time  to  time,  for  possibly  many  generations. 

The  miraculous  thing  about  its  creation  is  that  it  sprang  forth  in 
a  few  hours  before  the  Christmas  holidays  from  a  new  Congress  that 
understood  little  of  currency  and  less  of  banking  and  an  Executive 
and  a  Cabinet  that  never  made  any  pretense  to  a  clear  understanding 
of  financial  principles.  Yet  a  Congress  of  financial  experts,  with  an 
Administration  and  a  Cabinet  composed  of  the  leading  bankers  of  the 
country,  probably  could  not  have  produced  so  good  a  bill.  Bankers 
are  not  generally  progressive  or  even  open-minded.  The  line  of  safety 
must  be  their  rule  of  procedure,  and  all  changes  they  naturally  regard 
with  suspicion. 

Congress,  having  no  fixed  principles,  was  subject  to  no  prejudices, 
and  the  bankers,  who  could  never  be  induced  to  formulate  a  bill, 
unconsciously  made  one  by  their  negations. 

This  bill  is  the  re-formation  of  an  absolutely  unworkable  and 
chaotic  measure  passed  by  the  House.  It  was  forced  into  shape  by 
pressure  from  the  Administration  to  do  something  promptly,  as  the 
nether  millstone,  and  the  determination  of  the  banking  interests  to 
quit  the  national  banking  system,  should  the  act  give  evidence  of 
being  for  them  dangerous  as  the  upper  miUstone. 

Yet  the  bill  in  its  broad  principles  is  the  result  of  expert  currency 
and  banking  agitation  that  has  been  going  on  for  well-nigh  a  genera- 
tion, even  before  the  necessity  for  currency  legislation  was  emphasized 
by  the  1907  panic. 

The  bill  as  it  passed  the  House  was  so  highly  dangerous  as  to  be 
undesirable.  Had  not  the  financial  papers  refrained  from  criticism 
a  panic  might  easily  have  ensued.     Had  the  House  bill  passed  the 

'  Adapted  from  The  Federal  Reserve  Act,  pp.  7-9.  (Boston  News  Bureau  Co., 
1914.) 


THE  FEDERAL  RESERVE  SYSTEM  267, 

Senate  and  been  signed  by  the  President,  it  might  have  disrupted  the 
national  banking  system  and  caused  the  sudden  retirement  of 
$700,000,000  of  national  bank  currency. 

The  country  has  never  been  informed  of  the  quiet  currents  of 
expression  that  went  on  last  autumn  between  leading  banking  inter- 
ests. The  sentiment  of  the  national  bankers  cr>-stallized  in  a  quiet 
but  unaccorded  determination  to  make  no  acceptance  of  the  House 
bill  and  to  avoid  the  creation  of  any  panic  by  simply  sitting  still  and 
leaving  it  to  the  Administration,  if  it  so  elected,  to  enforce  the  act  and 
put  the  national  banks  out  of  existence  through  receivershijjs.  In 
other  words,  the  banks  would  not  themselves  take  the  responsibility 
of  a  foreclosure  upon  the  national  banking  system,  with  a  contraction 
of  $700,000,000  in  the  currency  afloat,  which  meant  the  sudden  retire- 
ment of  40  per  cent  of  the  money  in  the  hands  of  the  people. 

This  was  the  quiet  sentiment  of  the  national  bank  interests  of  the 
country  as  understood  and  privately,  yet  individually,  formulated  at 
the  American  Bankers'  Association  Convention  in  Boston  in  October. 
While  the  bill  was  under  discussion  in  the  Senate  it  was  changed 
so  rapidly  that  the  financial  world,  except  for  a  few  leading  experts, 
lost  personal  interest  in  it,  and  refused  to  follow  the  matter  in  the 
news  of  the  day.  But  now  that  financiers  have  had  time  to  read  the 
full  text  of  the  conference  bill,  as  signed  by  the  President,  it  is  not 
saying  too  much  to  declare  that  they  are  astonished  at  its  breadth  and 
character,  the  evident  sincerity  of  its  purpose,  and  its  freedom  from 
bias,  prejudice,  or  experimental  notion. 

Singular  as  it  may  appear,  the  force,  breadth,  and  character  of  this 
bill  are  really  due  to  the  pressure  put  on  Congress  to  produce  a  hill 
before  the  Christmas  holidays.  At  the  last  moments  of  the  session 
the  several  points  in  dispute  were  compromised  by  throwing  them 
upon  the  new  Federal  Reserve  Board,  yet  to  be  appointed,  just  where 
the  power  should  be  lodged. 

In  fact,  the  new  banking  bill  puts  in  the  hands  of  the  Secretarv  of 
the  Treasury  and  the  Federal  Reserve  Board  the  construction,  regu- 
lation, and  government  of  a  reserve  banking  system  to  l)e  built  out 
of  the  reserves  of  the  national  banks,  gradually  removed  from  the 
reserve  and  central  reserve  cities,  and  gradually  mingled  with  the 
moneys  of  the  United  States  Treasury'.  These  moneys,  with  the  capi- 
tal subscribed  by  the  national  or  "member"  banks,  constitute  a  basis 
for  the  rediscount  of  commercial  paper  from  the  member  banks  and  the 
issuance  in  this  connection  of  a  new  national  currency  supplementing 


264  PRINCIPLES  OF  MONEY  AND  BANKING 

the  present  currency,  yet  protected  by  a  40  per  cent  gold  reserve 
obtained  from  the  banks  and  the  Treasury;  the  whole  system  to  be 
knit  together  at  home  and  expanded  al^road,  with  i)ower  in  the  Federal 
Board  to  expand  or  contract  at  will,  to  officer  and  manage  and  regulate 
and  name  the  discount  rates  for  the  federal  reserve  banks  with  possibly 
more  money  in  their  pockets  than  may  be  then  held  by  the  banks  now 
constituting  the  national  banking  system. 

131.    THE  UNDERLYING  PURPOSE  OF  THE  ACT' 
By  C.  W.  BARRON 

The  "motif"  underlying  the  Federal  Reserve  Act  is  not  that 
"which  is  nominated  in  the  bond."  "An  elastic  currency  "  could  have 
been  had  by  an  enactment  of  twenty  lines.  The  "means  of  redis- 
counting  commercial  paper"  are  already  at  hand  and  such  discounts 
exist  to  the  extent  of  at  least  100  millions  in  the  national  banking 
system.  It  is  not  "to  establish  a  more  effective  supervision  of  bank- 
ing in  the  United  States,"  for  that  could  be  accomplished  by  increas- 
ing the  appropriation  and  enlarging  the  salaries  of  the  examiners,  so 
that  men  with  larger  experience  and  breadth  of  vision  would  perform 
more  effective  supervision. 

The  purpose  of  the  act  most  largely  in  its  inception  was  "for 
other  purposes,"  and  these  "purposes"  can  never  be  wisely  or  effect- 
ively carried  out;  if  persisted  in  they  spell  disaster  to  the  country. 

The  hidden  purpose  or  "motif"  which  inaugurated  this  legisla- 
tion, however  in  effect  it  may  work  out  under  wise  administration, 
is  to  cheapen  money. 

The  whole  primary  discussion  of  this  bank  act  was  to  make 
money  easier,  to  cheapen  it  to  the  farmer  and  producer  and  manu- 
facturer and  n^rchant.  Senators  and  representatives  both  pro- 
claimed within  and  without  Washington  that  what  they  were  seeking 
was  a  financial  system  that  would  give  us  an  average  rate  approaching 
that  of  the  Bank  of  France,  where  interest  over  a  series  of  years  aver- 
ages between  3  and  4  per  cent.  They  frankly  said  they  hoped  for 
something  under  the  4  per  cent  rate. 

The  charge  was  that  the  centralization  of  reserves  in  New  York 
or  Wall  Street  made  money  for  bankers  in  that  "den  of  iniquity," 
taxed  the  country  with  irregular  and  high  rates  of  interest,  and 
repressed  commerce,  investment,  and  prosperity. 

'  Adapted  from  The  Federal  Reserve  ^ c/,  pp.  lo-i  i ,  38.  (Boston  News  Bureau 
Co.,  1914.) 


THE  FEDERAL  RESERVE  SYSTEM  265 

Therefore  the  proposal  in  outline  was  that  New  York  should  he 
financially  carved  up;  that  the  reser\'es  of  the  national  banks  now 
centralized  in  New  York  should  be  taken  away  and  between  three 
and  four  hundred  millions  of  the  bank  reserves  which  are  now  depos- 
ited in  that  center  by  the  7,500  national  banks  over  the  country 
should  be  removed  to  other  centers  of  commerce  and  industry;  and 
thereupon  should  be  built  an  elastic  bankmg  and  currency  system, 
each  center  serving  its  own  local  community,  but  all  interknit,  each 
with  the  other,  for  mutual  support. 

The  old  system  produced  concentration  of  bank  reserves  in  New 
York  City,  which  Congress  desired  to  decentralize.  Wall  Street  was 
not  responsible  for  this  centraHzation  of  banking  power;  the  banks 
of  the  country  and  the  national  bank  act  were  responsible.  The 
New  York  banks  never  originated,  but,  of  course,  made  money  out 
of  it.  It  has  been  figured  that  they  made  one-third  of  i  per  cent  per 
annum  upon  these  deposits,  but  this  was  not  their  great  profit.  The 
profit  came  to  the  financial  powers  in  New  York  who  knew  the  ebb 
and  flow  of  currency,  spring  and  fall,  and  changed  their  investments 
as  betwixt  money,  bonds,  or  stock  according  to  the  money  currents. 
New  York,  as  a  recipient  holder  of  fluctuating  bank  reserves,  was  the 
seat  of  financial  power,  and  had  control  of  rates  and  the  distribution 
of  credit  according  as  money  flowed  in  or  out.  When  money  flowed 
in  after  the  country's  planting  or  harvesting,  New  York  bankers  said 
who  should  have  it,  and  upon  what  merchandise  and  what  stocks 
and  bonds  it  should  be  loaned. 

The  Federal  Reserve  Act  is  an  act  of  decentraUzation.  It  seeks 
the  establishment  of  other  financial  centers  co-ordinated  through  a 
Federal  Reserve  Board  at  Washington.  Finance  and  banks  arc  for 
the  people  and  human  development.  The  people  do  not  exist  for  the 
banks  or  for  potential  and  highly  centralized  finance. 

A  new  age  is  upon  us.  It  is  the  universal  age;  it  is  the  age  of 
humanity;  it  is  the  age  of  decentralization  of  old  powers  that  the 
individual  unit  of  humanity  may  enter  in. 

132.    A  GENERAL  VIEW  OF  THE  FEDERAL  RESERVE  SYSTEM* 
By  Cn.\RLES  S,  ILVMLIN 

The  Federal  Reserve  Act,  in  the  first  place,  provides  for  a  division 
of  the  United  States  into  12  districts,  each  district  containing  appro.xi- 
mately  from  500  to  700  national  banks.     The  national  banks  in  each 

'  Adapted  from  Federal  Reserve  Bulletin,  July,  1915,  pp.  i.?9-40. 


266  PRINCIPLES  OF  MONEY  AND  BANKING 

district  unite  in  forming  a  new  bank  called  the  Federal  reserve  bank, 
to  which  each  national  bank  contril)utes  6  per  cent  of  its  paid-up 
capital  stock  and  surplus  to  provide  the  necessary  capital. 

The  individual  capital  of  these  12  Federal  reserve  banks  varies, 
respectively,  from  a  little  under  5  millions  to  a  Httle  over  20  millions 
of  dollars.  The  total  capital  of  the  12  banks  (not  counting  State 
institutions  which  may  ultimately  become  members)  is  a  little  over 
100  millions  of  dollars. 

In  addition  to  the  capital  payments  that  must  be  made,  each 
national  member  bank  is  obliged  to  pay  to  its  Federal  reserve  bank 
a  certain  portion  of  its  legal  reserve,  which  portion,  however,  it  still 
counts  as  part  of  its  reserve.  These  payments  of  reserve  are  spread 
over  a  period  of  three  years,  and  the  total  payments  will  amount  to 
over  one- third  of  the  total  reserves  held  by  the  national  member  banks. 

In  addition,  the  Secretary  of  the  Treasury  may  deposit  the  general 
funds  of  the  Treasury — excepting  only  certain  trust  funds — with  the 
Federal  reserve  banks,  and  disbursements  of  the  government  may  be 
made  by  checks  drawn  against  such  deposits. 

The  national  banks  in  the  12  respective  districts  (and  State  banks 
which  may  join  the  system  later)  are  the  only  stockholders  of  the 
Federal  reserve  banks,  and  their  stock  cannot  be  transferred  or 
hypothecated.  The  stock  is  entitled  to  a  6  per  cent  annual  cumula- 
tive dividend,  and  one-half  the  net  earnings  of  the  Federal  reserve 
banks  may  be  paid  into  a  surplus  fund  until  it  amounts  to  40  per  cent 
of  the  paid-up  capital  stock. 

All  net  earnings  over  and  above  this  dividend  and  surplus  are  paid 
to  the  United  States  as  a  franchise  tax. 

Each  Federal  reserve  bank  is  managed  by  a  board  of  directors, 
consisting  of  nine  members,  of  which  three  are  appointed  by  the 
Federal  Reserve  Board  and  six  are  elected  by  the  member  banks, 
three  of  the  six  directors  representing  the  banks  and  three  consisting 
of  members  who  at  the  time  of  their  election  were  actively  engaged  in 
commerce,  agriculture,  or  some  other  industrial  pursuit. 

These  1 2  Federal  reserve  banks  are  under  the  control  and  direction 
of  the  Federal  Reserve  Board,  consisting  of  the  Secretary  of  the 
Treasury  and  the  Comptroller  of  the  Currency,  ex  officio,  and  of  five 
other  members  appointed  by  the  President  and  confirmed  by  the 
Senate. 

The  Federal  Reserve  Board  sits  in  Washington,  D.C.  It  appoints, 
as  I  before  said,  three  directors  on  the  board  of  each  Federal  reserve 


THE  FKDERAL  RESERVE  SYSTEM  267 

bank;  it  has  general  powers  of  supervision  and  examination  of  the 
Federal  reserve  banks  and  the  member  banks;  it  may  suspend  or 
remove,  for  cause,  any  director  or  officer  of  the  Federal  reserve  banks; 
it  may  suspend  the  operation  of  any  Federal  reserve  bank  and  liqui- 
date or  reorganize  such  bank;  it  defines  the  paper  which  may  be 
rediscounted  by  Federal  reserve  banks;  it  has  power  to  review  and 
determine  the  rates  of  discount  established  from  time  to  time  by  the 
Federal  reserve  banks  for  the  discount  of  commercial  paper  offered 
by  the  member  banks;  it  regulates  the  open-market  powers  of  the 
Federal  reserve  banks;  it  has  power  to  suspend  every  reserve  require- 
ment of  the  act  if  it  deems  such  course  necessary;  and  it  has  many 
other  specific  powers  which  I  need  not  mention  here.' 

Each  Federal  reserve  bank  is  independent  of  every  other.  They 
are  empowered,  however,  with  the  permission  of  the  Federal  Reserve 
Board,  and  at  rates  fixed  by  the  board,  to  rediscount  the  discounted 
paper  of  any  of  the  other  Federal  reserve  banks,  and  can  be  required 
to  do  so  by  the  affirmative  vote  of  at  least  five  members  of  the  Federal 
Reserve  Board. 

The  act  also  creates  a  body  known  as  the  Federal  Advisory  Coun- 
cil, one  member  of  which  is  elected  by  each  Federal  reserve  bank. 
The  duties  of  the  council  are  to  confer  with  the  Federal  Reserve 
Board  and  to  advise  it  as  to  matters  connected  with  discount  rates, 
note  issues,  reserve  conditions,  open-market  powers,  and  similar  ques- 
tions. 

■In  connection  with  this  selection  reference  is  made  to  selections  103  and 
104. — Editor. 


268 


PRINCIPLES  OK  MONEY  AND  BANKING 


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1 

270  PRINCIPLES  OF  MONEY  AND  BANKING 

135.    SUPERIORITY  OF  DISTRICT  OVER  CENTRAL  BANK 

PLAN' 

By  J.  LAURENCE  LAUGHLIN 

The  legislative  struggle  over  the  bill  gathered  mainly  about  the 
question  of  central  control.  On  the  one  hand,  owing  to  a  current 
belief  that  a  control  over  credits  was  possessed  by  the  larger  banks 
of  New  York  City,  there  were  many  who  regarded  government  control 
of  banking  credits  as  the  only  means  for  securing  equality  of  treat- 
ment. This  attitude  was  a  part  of  the  present-day  tendency  to  press 
for  increasing  governmental  interference  with  trade  and  industry. 
While  there  was  opposition  to  a  central  bank  of  private  capital  and 
of  private  management,  there  was  more  or  less  support  for  a  central 
bank  owned  and  controlled  by  the  government.  Thus,  although  there 
was  a  well-preserved  tradition  in  the  Democratic  ranks  (based  on 
ignorance  of  the  real  services  of  the  Second  United  States  Bank,  and 
which  did  them  little  credit)  against  a  central  bank,  and  although 
Democrats  were  supposed  to  dislike  a  centralization  of  political  power, 
yet  the  opposition  to  the  plan  of  the  National  Monetary  Commission 
was  clearly  due,  not  so  much  to  fear  of  a  central  bank,  as  to  the  fear 
of  a  privately  capitalized  central  institution  which  might  be  controlled 
by  the  "interests." 

On  the  other  hand,  sensible  men  of  all  parties  reaUzed  that  it 
would  be  impracticable  to  allow  government  officials,  often  poUtical 
appointees,  to  do  the  actual  work  of  technical  banking,  to  grant 
loans,  to  manage  resources  and  investments — in  short,  to  introduce 
the  government  into  the  banking  business.  Political  control  was 
obviously  as  dangerous  as  private  financial  control;  and  it  would  have 
been  destructively  ineflQcient. 

The  solution  of  the  matter  finally  adopted  was,  interestingly 
enough,  centralization  by  districts;  that  is,  a  centralization  intended 
to  prevent  scattering  of  reserves  was  obtained  by  establishing  in  each 
district  an  institution  itself  quite  similar,  in  powers  within  its  juris- 
diction, to  the  National  Reserve  Association  of  the  Monetary  Com- 
mission. That  is,  the  government  was  saved  from  going  into  the 
banking  business  by  granting  local  centralization  with  capital  and 
management  supplied  by  the  banks,  and  yet  federated  under  a  com- 
mon authority  in  order  to  establish  governmental  direction  and  unity 
of  purpose.     In  its  essence  this  plan  retained  the  workings  of  local 

'  Adapted  from  "The  Banking  and  Currency  Act  of  1913",  Journal  of  Politi- 
cal Economy,  XXII  (1914),  310-12. 


THE  FEDERAL  RESERVE  SYSTKM  271 

self-government,  together  with  the  operation  of  technical  banking  l>y 
those  who  supplied  the  ca])ital,  under  general  direction.  This  final 
adjustment  which  secured  safe  and  efficient  methods,  as  contrasted 
with  the  chaotic  proposals  which  might  have  been  adopted,  will  be  a 
cause  of  permanent  congratulation. 

It  is  to  be  observed,  moreover,  that  the  solution  adapted  to  our 
conditions,  in  which  a  widely  scattered  system  of  individual  banks 
had  to  be  retained,  must  be  original  with  us.  In  no  other  country 
were  the  conditions  the  same.  The  relation  of  a  Central  Bank  in 
European  states  to  other  banks  was  not  one  based  on  the  existence  of 
a  system  of  individualistic  and  numerous  banks  carrying  on  inde- 
pendent operations.  Therefore,  while  retaining  self-management  of 
privately  owned  banks,  co-operation  was  obtained  by  Reserve  Banks 
in  local  districts  under  management  by  bankers,  while  country-wide 
and  uniform  action  was  gained  by  governmental  direction  through 
a  Federal  Reserve  Board. 

The  difficulty  of  sectional  differences  of  interest  working  against 
each  other  would,  nevertheless,  have  to  be  met  in  the  practical  work- 
ings of  any  plan.  If  there  had  been  one  central  institution,  pressure 
would  have  been  brought  upon  the  central  management  to  help  out 
one  section  of  the  country  at  the  expense  of  another.  Under  a  system 
of  regional  banks  each  section  gets  the  support  of  its  own  resources 
first  of  all,  an  arrangement  by  which  sectional  antagonism  is  reduced 
Jto  the  minimum.  In  addition,  when  one  section  is  in  trouble  beyond 
its  own  powers  of  recovery,  then  by  aid  of  the  Reserve  Board  one 
Reserve  Bank  may  come  to  the  aid  of  another.  Such  a  practice,  it 
is  to  be  noted,  has  been  going  on  in  an  extra-legal  way  in  previous 
years  whenever  banks  of  a  large  center  have  sought  assistance  from 
New  York.  Such  a  practice  was  natural  and  inevitable.  In  the  new 
law  such  practice  is  openly  recognized  and  legalized. 

136.    REASONS  FOR  CHOICE  OF  DISTRICTS' 

The  Organization  Committee  has  issued  the  following  statement 
as  a  summary  of  its  operations  and  conclusions: 

The  Federal  Reserve  Act  directs  the  Reserve  Bank  Organization  Com- 
mittee to  "designate  not  less  than  eight  nor  more  than  twelve  cities  to  be 
known  as  Federal  Reserve  cities,"  to  "divide  the  continental  United  States, 
excluding  Alaska,  into  districts,  each  district  to  contain  only  one  of  such 

'  Issued  April  2,  1914.  Taken  from  Monthly  Letter  of  National  City  Bank, 
New  York,  .\|)ril,  1914. 


272  rRlNCIl'LKS  OF  MONKY  AND  BANKING 

Federal  Reserve  cities,"  and  to  apportion  the  districts  "with  due  regard  to 
the  convenience  and  customary  course  of  business."  'J'he  Act  provides  that 
the  districts  may  not  necessarily  be  coterminus  with  any  State  or  States. 

In  determining  the  Reserve  districts  and  in  designating  the  cities  within 
such  districts  where  Federal  Reserve  Banks  shall  be  severally  located,  the 
Organization  Committee  has  given  full  consideration  to  the  important 
factors  bearing  upon  the  subject.  The  Committee  held  public  hearings  in 
eighteen  of  the  leading  cities  from  the  Atlantic  to  the  Pacific  and  from  the 
Great  Lakes  to  the  Gulf,  and  was  materially  assisted  thereby  in  determining 
the  districts  and  the  reserve  cities. 

Every  reasonable  opportunity  has  been  afforded  applicant  cities  to 
furnish  evidence  to  support  their  claims  as  locations  for  Federal  Reserve 
Banks. 

More  than  200  cities,  through  their  Clearing-House  Associations, 
Chambers  of  Commerce,  and  other  representatives,  were  heard.  Of  these, 
37  cities  asked  to  be  designated  as  the  headquarters  of  a  Federal  Reserve 
Bank. 

The  majority  of  the  Organization  Committee,  including  its  Chairman 
and  the  Secretary  of  Agriculture,  were  present  at  all  hearings,  and  steno- 
graphic reports  of  the  proceedings  were  made  for  more  deUberate  considera- 
tion. Independent  investigations  were,  in  addition,  made  through  the 
Treasury  Department,  and  the  preference  of  each  bank  as  to  the  location  of 
the  Federal  Reserve  Bank  with  which  it  desired  to  be  connected  was  ascer- 
tained by  an  independent  card  ballot  addressed  to  each  of  the  7,475  National 
Banks  throughout  the  country  which  had  formally  assented  to  the  provisions 
of  the  Federal  Reserve  Act. 

Among  the  many  factors  which  governed  the  Committee  in  determining 
the  respective  districts  and  the  selection  of  the  cities  which  have  been  chosen 
were: 

First. — The  ability  of  the  member  banks  within  the  district  to  provide 
the  minimum  capital  of  $4,000,000  required  for  the  Federal  Reserve- Bank, 
on  the  basis  of  6  per  cent  of  the  capital  stock  and  surplus  of  member  banks 
within  the  district. 

Second. — The  mercantile,  industrial,  and  financial  connections  existing 
in  each  district  and  the  relations  between  the  various  portions  of  the  district 
and  the  city  selected  for  the  location  of  the  Federal  Reserve  Bank. 

Third. — ^The  probable  ability  of  the  Federal  Reserve  Bank  in  each  dis- 
trict, after  organization  and  after  the  provisions  of  the  Federal  Reserve  Act 
shall  have  gone  into  effect,  to  meet  the  legitimate  demands  of  business, 
whether  normal  or  abnormal,  in  accordance  with  the  spriit  and  provisions 
of  the  Federal  Reserve  Act. 

Fourth. — ^The  fair  and  equitable  division  of  the  available  capital  for  the 
Federal  Reserve  Banks  among  the  districts  created. 


THE  FEDERAL  RESERVE  SYSTEM  273 

• 

Fifth. — The  general  geographical  situation  of  the  district;  transporta- 
tion lines  and  the  facilities  for  speedy  communication  between  the  Federal 
Reserve  Bank  and  all  portions  of  the  district. 

Sixth. — The  population,  area,  and  prevalent  business  activities  of  the 
district,  whether  agricultural,  manufacturing,  mining,  or  commercial,  its 
record  of  growth  and  development  in  the  past,  and  its  prospects  for  the 
future. 

In  determining  the  several  districts,  the  Committee  has  endeavored  to 
follow  state  lines  as  closely  as  practicable,  and  wherever  it  has  been  found 
necessary  to  deviate,  the  division  has  been  along  lines  which  are  believed 
to  be  most  convenient  and  advantageous  for  the  district  affected. 

137-    CRITICISM  OF  THE  DISTRICTS  CHOSEN* 

The  plan  of  division  indicated  by  the  committee  has  already 
received  very  severe  criticism,  this  criticism  being  particularly 
addressed  to  the  folIoAving  points: 

1.  The  establishment  of  the  maximum  number  of  12  districts, 
notwithstanding  that  the  advice  of  a  large  number  of  bankers  and 
business  men  had  been  in  favor  of  the  limitation  of  the  number  to  the 
minimum  required  by  law. 

2.  The  failure  to  create  a  single  large  overshadowing  bank  with  a 
capital  of  not  less  than  $25,000,000  to  $30,000,000,  such  a  bank  having 
been  strongly  recommended  on  the  ground  that  an  institution  of  such 
a  size  was  necessary  to  control  foreign  exchange  operations  and  to 
direct  the  course  of  trade  and  monetary  operations  between  the  United 
States  and  foreign  countries. 

3.  The  placing  of  too  many  districts  on  the  Atlantic  Coast  while 
the  West  was  left  relatively  unsupplied  witli  districts  and  banks. 

4.  The  faulty  division  of  the  country  between  the  several  districts 
in  certain  particulars.  Among  these  particulars  are  expressly  men- 
tioned (a)  the  selection  of  boundary  lines  that  would  include  larger 
and  richer  centers  as  tributary  to  smaller  and  weaker  points  at  which 
reserve  banks  were  situated,  {b)  the  artificial  separation  of  certain  por- 
tions naturally  tributary  to  a  given  city  and  their  inclusion  in  a  region 
assigned  to  another  city,  (c)  the  erroneous  assignment  of  certain 
regions  to  cities  w4th  which  they  have  comparatively  poor  or  slow 
transportation  connections. 

'  Adapted  from  "Washington  Notes"  in  Journal  of  Political  Fxonomy,  XXII 
(1914),  484-87. 


274  rRiNCiPLES  OF  monp:y  ani^  hanking 

• 

These  objections,  as  thus  classified,  practically  summarize  the 
whole  case  against  the  plan  of  districting,  but  there  is  a  distinct  differ- 
ence in  the  weight  to  be  given  to  the  various  criticisms.  As  to  whether 
the  maximum  or  minimum  number  of  districts  should  have  been 
created,  decided  difference  of  opinion  undoubtedly  exists  in  respon- 
sible circles,  not  a  few  persons  taking  the  view  that  if  possible  the  1 2 
districts  should  have  been  mapped  out,  assuming,  of  course,  that  each 
could  be  assigned  a  capital  adequate  to  the  creation  of  a  reasonably 
strong  bank  in  the  district  under  consideration.  This  point  may  be 
regarded  therefore  as  essentially  a  question  of  difference  in  theory  or 
of  attitude  toward  the  banking  organization  question  in  general. 

In  the  same  way  the  failure  or  refusal  to  create  a  single  bank  of 
predominant  capital  is  not  considered  as  affording  ground  for  the 
pessimistic  criticisms  that  are  voiced  in  some  quarters.  The  New 
York  reserve  bank  actually  provided  for  will  have  a  much  larger 
capital  than  any  other  institution  in  the  system,  and,  while  its  capital 
is  materially  smaller  than  the  combined  capital  and  surplus  of 
several  of  the  other  institutions  located  in  the  city  of  New  York,  this 
fact  is  not  regarded  as  necessarily  indicating  anything  ver>'  definite 
with  reference  to  the  effectiveness  of  the  proposed  plan.  As  a  matter 
of  fact,  the  Bank  of  England  is  considerably  below  several  other 
institutions  in  London,  so  far  as  relates  to  aggregate  resources.  This 
does  not  prevent  the  Bank  of  England  from  exercising  a  predominant 
control  over  the  prevailing  rate  of  discount.  A  similar  condition 
exists  in  some  of  the  Continental  countries.  It  is  beheved,  therefore, 
that  the  size  allowed  to  the  New  York  institution  is  amply  sufficient 
to  permit  the  establishment  of  an  effective  bank.  Moreover,  too 
little  weight  appears  to  have  been  allowed  in  current  discussion  to  the 
fact  that  the  Federal  Reserve  Board  will  exercise  a  powerful  central 
control  over  the  whole  system  and  will  undoubtedly  succeed  in  uniting 
the  different  institutions  in  a  single  and  well-considered  national 
policy. 

A  different  point  of  view  is  evidently  entertained  by  careful 
thinkers  with  respect  to  the  actual  districting.  The  third  point, 
already  mentioned  above,  that  too  many  districts  have  been  placed 
on  the  Atlantic  Coast  while  the  West  is  left  relatively  unsupplied  is 
regarded  as  having  very  considerable  force.  As  things  stand,  the 
Atlantic  Coast  districts  are  represented  by  the  cities  of  Boston,  New 
York,  Philadelphia,  Richmond,  and  Atlanta.  This  is  considered 
clearly  one  too  many,  the  urmecessary  city  and  district  being  Rich- 


THE  FEDERAL  RESERVE  SYSTEM  275 

mond.  By  leaving  out  the  Richmond  district  a  much-needed  dis- 
trict which  could  have  been  used  elsewhere  would  have  been  saved 
with  positive  benefit  to  the  other  districts  on  the  Atlantic  Coast,  which 
are  now  too  thickly  packed  together  to  admit  of  a  healthy  growth. 
The  belief  prevailing  in  sound  quarters  is  that  the  Atlanta  district  with 
its  very  limited  capital  would  have  been  better  off  had  not  the  states 
of  North  and  South  Carolina,  which  properly  belong  to  it,  been  pared 
away  in  order  to  provide  a  southern  extension  for  the  Richmond  dis- 
trict. In  the  same  way,  the  northward  e.xtension  of  the  Richmond 
district  tended  to  force  the  northern  boundary  of  the  Philadelphia 
district  to  the  shores  of  New  York  harbor,  thereby  depriving  Xew 
York  City  of  a  portion  of  its  natural  territory,  the  northern  rim  of 
New  Jersey,  while  in  like  manner  the  rearrangement  of  boundaries 
necessitated  by  the  insertion  of  the  Richmond  district  tended  to  pre- 
vent the  inclusion  of  western  Connecticut  with  New  York,  and  to 
force  other  adjustments  generally  believed  to  be  out  of  harmony  with 
the  "convenience  and  customary  course  of  business." 

In  a  somewhat  similar  fashion  the  fourth  criticism  already  men- 
tioned is  finding  support  among  informed  students  of  banking.  This 
criticism  closely  follows  that  which  has  been  last  considered.  By 
making  Baltimore,  for  example,  tributar}^  to  Richmond,  and  New- 
Orleans  to  Atlanta,  an  injury  was  done  not  only  to  local  pride  but  also 
to  the  convenient  and  customary  cfbvelopment  of  trade  relations. 
The  work  done  in  this  regard  seems  to  make  it  unavoidable  that  there 
should  be  a  considerable  reversal  of  the  current  of  business  in  a  num- 
ber of  districts,  the  clearing  of  checks  and  the  obtaining  of  rediscounts 
being  carried  on  at  points  where  under  other  conditions  they  would 
never  have  been  placed.  Undoubtedly  this  kind  of  change  will  cause 
some  friction,  but  there  seems  to  be  little  doubt  that  the  amount  of 
it  has  been  considerably  exaggerated.  Those  who  arc  disposed  to 
place  too  much  stress  upon  the  effect  of  the  districting  overlook  the 
fact  that  the  new  system  is  simply  superadded  to  existing  banking 
arrangements  and  that  it  in  no  way  interferes  with  them.  Even  the 
redistribution  of  reserves  does  not  aflect  them,  since  the  gross  amount 
of  required  reserve  is  so  reduced  under  the  new  banking  act  that  banks 
which  have  been  in  the  habit  of  keeping  reserve  balances  with  the  old 
reserve  cities  could  continue  to  do  so  without  serious  hardship  under 
the  new  law,  even  if  these  balances  were  not  ct)untcd  as  reserves.  They 
would  he  as  well  olT  as  llu\-  wire  before.  The  criticism  of  the  dis- 
tricting really  amounts  in  the  last  analysis  to  a  statement  that  the 


276  PRINCIPLES  OF  MONEY  AND  BANKING 

work  has  not  been  done  as  well  as  it  might  have  been,  and  that  if  it 
had  been  more  carefully  performed  the  operation  of  the  new  system 
would  have  been  somewhat  smoother  and  easier  to  manage. 

138.    THE  FEDERAL  RESERVE  BOARD' 
By  E.  E.  agger 

Co-ordinating  and  controlling  the  whole  system  is  the  "Federal 
Reserve  Board."  It  is  made  up  of  seven  members.  The  Secretary 
of  the  Treasury  and  the  Comptroller  of  the  Currency  are  members 
ex  officio.  Five  members  are  appointed  by  the  President  by  and  with 
the  advice  and  consent  of  the  Senate.  Not  more  than  one  member 
of  the  board  can  come  from  a  single  reserve  district.  At  least  two  of 
the  presidential  appointees  must  have  had  banking  or  financial 
experience,  but  no  member  of  the  board  may  be  an  officer,  director, 
or  stockholder  of  any  bank.  Except  for  the  ex-officio  members,  and 
for  the  first  incumbents,  whose  terms  \\\\\  run  respectively,  two,  four, 
six,  eight,  and  ten  years,  the  term  of  office  will  be  ten  years.  But  the 
President  may  remove  members  for  cause.  While  the  Secretary  of 
the  Treasury  is  the  ex-officio  chairman  of  the  board- the  President  is 
empowered  to  name  one  of  his  five  appointees  as  "governor."  The 
governor  and  vice-govcnor  are  the  chief  executive  officers  of  the  whole 
system.  *" 

The  Federal  Reserve  Boar*is*an  unusually  powerful  supervisory 
and  regulating  body.  It  may  suspend  or  remove  any  officer  or  direc- 
tor of  a  federal  reserve  bank;  it  may  require  the  writing  off  by  such 
bank  of  its  bad  debts,  and  may  suspend  a  federal  reserve  bank  or 
take  it  over  for  purposes  of  reorganization  or  liquidation.  It  may 
also  readjust  or  abolish  altogether  the  classification  of  central  reserve 
and  reserve  cities. 

The  member  banks  are  represented  in  the  central  management  by 
a  "Federal  Advisory  Council,"  made  up  of  one  representative  from 
each  federal  reserve  district,  chosen  by  the  board  of  directors  of  the 
federal  reserve  bank.  This  council  meets  quarterly  at  Washington 
and  at  such  other  times  and  places  as  it  may  choose.  While  patterned 
after  the  stockholders'  committee  of  the  Reichsbank,  it  is  even  less 
powerful  than  the  German  prototj^e.  It  may  merely  call  for  infor- 
mation from,  and  advise  with,  the  Federal  Reserve  Board.^ 

'  Adapted  from  "The  Federal  Reser\-e  System,"  Political  Science  Quarterly, 
XXIX  (1914),  269-70. 

^Compare  with  selection  No.  132. — Editor. 


THE  FEDERAL  RESERVE  SYSTEM  277 

139.     FUNCTIONS  OF  THE  RESERVE  BANKS' 

The  question  naturally  suggests  itself  and  must  be  frankly  faced: 
What  is  the  proper  place  and  function  of  the  Federal  Reserve  Banks 
in  our  banking  and  credit  system  ?  On  the  one  hand  it  is  represented 
that  they  are  merely  emergency  banks  to  be  resorted  to  for  assistance 
only  in  time  of  abnormal  stress,  while  on  the  other  it  is  claimed  that 
they  are  in  essence  simply  additional  banks  which  should  comj)ete 
with  the  member  banks,  especially  with  those  of  the  greatest  power. 
The  function  of  a  reserve  bank  is  not  to  be  identified  with  either  of 
these  extremes,  although  occasions  may  arise  when  either  of  such 
courses  may  be  imperative.  Its  duty  plainly  is  not  to  await  emer- 
gencies but,  by  anticipation,  to  do  what  it  can  to  prevent  them.  So 
also  if,  at  any  time,  commerce,  industry,  or  agriculture  is,  in  the 
opinion  of  the  Federal  Reserve  Board,  burdened  unduly  with  excessive 
interest  charges,  it  will  be  the  clear  and  imperative  duty  of  the  Reser\'e 
Board,  acting  through  the  discount-rate  and  open-market  powers,  to 
secure  a  wider  diffusion  of  credit  facilities  at  reasonable  rates.  The 
Federal  Reserve  Banks  are  the  holders  of  a  large  part  of  the  banking 
reserves  of  the  nation,  the  foundation  of  its  banking  structure. 
Nothing  should  be  permitted  in  the  operation  of  the  Reserve  Banks 
which  would  weaken  this  foundation.  The  resources  of  a  Reserve 
Bank,  to  be  useful  for  its  peculiar  purposes,  should  always  be  readily 
available.  It  follows,  therefore,  that  they  should  be  mainly  invested 
in  such  short-term  liquid  investments  as  can  be  easily  converted  into 
cash  as  occasion  may  require.  This  conception  of  a  Reserve  Bank, 
moreover,  implies  that  its  investments  should  be  marshaled  in  a 
steady  succession  of  maturities,  so  that  it  may  at  all  times  as  nearly 
as  possible  prove  equal  to  the  situation. 

The  ready  availalnlity  of  its  resources  is  of  supreme  importance 
in  the  conduct  of  a  Reserve  Bank.  Only  then  can  it  become  a  safe 
and  at  the  same  time  flexible  instrument  of  guidance  and  control,  a 
regulator  of  interest  rates  and  conditions.  Only  then  will  it  con- 
stantly carry  the  promise  of  being  able  to  protect  business  against  the 
harmful  stimulus  and  consequences  of  ill-advised  expansions  of  credit 
on  the  one  hand  or  against  the  menace  of  unnatural  restrictions  and 
unnecessary  contractions  on  the  other,  with  exorbitant  rales  of  interest 
and  artificial  stringencies.  It  should  at  all  times  be  a  steadying 
influence,  leading  when  and  where  leadership  is  requisite,  but  never 

'Quoted  from  First  Annual  Report  of  the  Federal  Reserve  Board,  December, 
1914,  pp.  17-18. 


278  PRINCirLMS  OF  MONEY  AND  HANKING 

allowing  itself  to  become  an  instrument  for  the  promotion  of  the  selfish 
interest  of  any  private  or  sectional  group,  be  their  aims  and  methods 
open  or  disguised.  It  should  never  be  lost  to  sight  that  the  Reserve 
Banks  are  invested  with  much  of  the  quality  of  a  pubUc  trust.  They 
were  created  because  of  the  existence  of  certain  common  needs  and 
interests,  and  they  should  be  administered  for  the  common  welfare — 
for  the  good  of  all. 

The  more  complete  adaptation  of  the  credit  mechanism  and 
facilities  of  the  country  to  the  needs  of  industry,  commerce,  and  agri- 
culture— with  all  their  seasonal  fluctuations  and  contingencies — 
should  be  the  constant  aim  of  a  Reserve  Bank's  management.  To 
provide  and  maintain  a  fluid  condition  of  credit,  such  as  will  make 
of  the  Reserve  Banks  at  all  times  and  under  all  conditions  institutions 
of  accommodation  in  the  larger  and  public  sense  of  the  term,  is  the 
first  responsibility  of  a  Reserve  Bank. 

It  should  not,  however,  be  assumed  that  because  a  bank  is  a 
Reserve  Bank  its  resources  should  be  kept  idle  for  use  only  in  times 
of  difficulty,  or,  if  used  at  all  in  ordinary  times,  used  reluctantly  and 
sparingly.  Neither  should  it  be  assumed  that  because  a  Reserv^e 
Bank  is  a  large  and  powerful  bank  all  its  resources  should  be  in  use 
all  the  time  or  that  it  should  enter  into  keen  competition  with  mem- 
ber banks,  distributing  accommodation  with  a  free  and  lavish  hand 
in  undertaking  to  quicken  unwisely  the  pace  of  industry.  Such  a 
policy  would  be  sure,  sooner  or  later,  to  invite  disaster.  Time  and 
experience  will  show  what  the  seasonal  variations  in  the  credit 
demands  and  facilities  in  each  of  the  Reserve  Banks  of  the  several 
districts  will  be  and  when  and  to  what  extent  a  Reserve  Bank  may, 
without  violating  its  special  function  as  a  guardian  of  banking  reserves, 
engage  in  banking  and  credit  operations.  The  Reserve  Banks  have 
expenses  to  meet,  and  while  it  would  be  a  mistake  to  regard  them 
merely  as  profit-making  concerns  and  to  apply  to  them  the  ordinary 
test  of  business  success,  there  is  no  reason  why  they  should  not  earn 
their  expenses,  and  a  fair  profit  besides,  without  failing  to  exercise 
their  proper  functions  and  exceeding  the  bounds  of  prudence  in  their 
management.  Moreover,  the  Reserve  Banks  can  never  become  the 
leading  and  important  factors  in  the  money  market  which  they  were 
designed  to  be  unless  a  considerable  portion  of  their  resources  is  regu- 
larly and  constantly  employed. 

There  will  be  times  when  the  great  weight  of  their  influence  and 
resources  should  be  exerted  to  secure  a  freer  extension  of  credit  and 


THE  fedi:r.\l  reserve  system  279 

an  easing  of  rates  in  order  that  the  borrowing  community  shall  be 
able  to  obtain  accommodation  at  the  lowest  rates  warranted  by  exist- 
ing conditions  and  be  adequately  protected  against  exorbitant  rales 
of  interest.  There  will  just  as  certainly,  however,  be  other  times  when 
prudence  and  a  proper  regard  for  the  common  good  will  require  that 
an  opposite  course  should  be  pursued  and  accommodations  curtailed. 
Normally,  therefore,  a  considerable  proportion  of  its  resources  should 
always  be  kept  invested  by  a  Reserve  Bank  in  order  that  the  release 
or  withdrawal  from  active  employment  of  its  banking  funds  may 
always  exercise  a  beneficial  influence.  This  is  merely  saying  thai  to 
influence  the  market  a  Reserve  Bank  must  always  be  in  the  market, 
and  in  this  sense  Reserve  Banks  will  be  active  banking  concerns  when 
once  they  have  found  their  true  position  under  the  new  banking  con- 
ditions. 

It  would  be  a  mistake,  therefore,  and  a  serious  limitation  of  ihcir 
usefulness  to  regard  the  Reserve  Banks  simply  as  emergency  banks. 
Regulation  in  ordinary  times,  as  well  as  protection  in  extraordinary' 
times,  may  be  expected  to  become  the  chief  service  which  these  insti- 
tutions will  perform.  The  Federal  Reserve  Board  is  fully  alive  to  its 
opportunities  and  responsibilities  in  this  respect,  but  it  must  counsel 
patience  in  awaiting  the  fruition  of  the  new  system.  It  will  lake  time 
for  the  new  banks  to  develop  the  technique  of  control  and  skill  and 
experience  in  its  application.  The  ascertainment  of  the  correct  base 
from  which  comprehensive  operations  should  begin,  the  establishment 
of  a  normal  level  from  which  expansions  and  contractions  will  freely 
take  place,  will  have  a  most  important  bearing  upon  the  future  devel- 
opment and  success  of  the  system.  Impatience  to  show  results  should 
not  be  permitted  to  tempt  those  in  charge  of  the  Reserve  Banks  into 
precipitate  and  unwise  action. 

The  vast  and  complex  structure  of  modern  banking  and  crrdit 
systems  is  one  of  extreme  delicacy  of  balance  and  adjustment,  and 
it  must  never  be  overlooked  that  it  is  highly  sensitive  to  all  manner 
of  disturbances,  as  recent  events  have  painfully  demonstrated.  The 
banking  systems  of  the  larger  nations  are  closely  related  to  one 
another,  and  financial  distress  or  collajise  at  one  point  (|uickly  trans- 
mits shock  to  all  others.  Safety  for  us  in  critical  times  will  depend  on 
the  confidence  our  system  commands,  the  strength  of  its  reserves,  and 
its  power  to  bring  them  into  action  promjitly  and  effect  ivcly  if  needed. 

In  dealing  with  new  districts  and  entirely  changed  banking 
methods,  time  and  experience  alone  can  supply  the  data  necessarj'  for 


28o  PRINCIPLES  OF  MONEY  AND  BANKING 

charting  the  course  to  be  pursued.  This  consideration,  if  nothing  else, 
would  suggest  the  greatest  patience  and  prudence,  even  if  the  European 
horizon  were  less  clouded  than  it  is  today.  None  the  less,  the  Board 
realizes  that  where  extraordinary  conditions  warrant  extraordinary' 
measures  it  is  the  foremost  duty  of  the  Board  and  the  banks  to  act 
promptly  and  boldly. 

140.    THE  DIRECTORS  OF  THE  FEDERAL  RESERVE  BANKS' 
By  MILTON  C.  ELLIOT 

The  duties  and  responsibilities  of  the  directors  of  Federal  Reserve 
Banks  will  be  of  the  same  general  character,  with  an  added  degree 
of  responsibility,  as  the  duties  and  responsibilities  of  directors  of 
national  or  member  banks. 

Section  4  of  the  Federal  Reserve  Act  provides  among  other  things 
that— 

Every  Federal  Reserve  Bank  shall  be  conducted  under  the  supervision 
and  control  of  a  board  of  directors. 

The  board  of  directors  shall  perform  the  duties  usually  appertaining 
to  the  office  of  directors  of  banking  associations  and  all  such  duties  as  are 
prescribed  by  law. 

Said  board  shall  administer  the  affairs  of  said  bank  fairly  and  impar- 
tially and  without  discrimination  in  favor  of  or  against  any  member  bank  or 
banks  and  shall,  subject  to  the  provisions  of  law  and  the  orders  of  the 
Federal  Reserve  Board,  extend  to  each  member  bank  such  discounts, 
advancements,  and  accommodations  as  may  be  safely  and  reasonably  made 
with  due  regard  for  the  claims  and  demands  of  other  member  banks. 

From  this  it  will  be  observed  that  the  Federal  Reserve  Banks  are 
to  exercise  the  functions  of  banks  and  are  not  merely  an  association 
of  other  banks. 

When  this  section  is  read  in  connection  with  Section  13,  relating 
to  rediscounts  and  other  powers  of  Federal  Reserve  Banks,  and  with 
Section  16,  which  provides  in  efifect  that  the  United  States  Govern- 
ment shall  lend  its  credit  through  the  issuance  of  Federal  Reserve 
notes  to  these  banks,  it  is  apparent  that  the  duties  and  obligations  of 
the  directors  of  Federal  Reserve  Banks  are  not  honorary,  but  that 
those  who  undertake  these  important  obligations  are  factors  in  a 
great  co-ordinated  system  of  banking. 

'  Adapted  from  an  address  before  the  AmericanBankers'Association,May.  1914. 
(Published  in  Monthly  Letter  of  National  City  Bank,  New  York,  June,  1914.) 


THE  FEDERAL  RESERVE  SYSTEM  28 1 

While  the  management  of  the  Federal  Reserve  Banks  will  be 
relieved  from  many  of  the  problems  and  difficulties  of  individual 
banks,  and  will  deal  primarily  with  certain  definite  depositors  and 
customers — the  member  banks,  the  responsibilities  of  their  directors 
will  be  increased  by  reason  of  the  fact  that  they  have  at  stake,  not 
only  the  investment  of  the  depositors'  funds,  but  the  investment  of 
the  national  credit. 

In  working  out  a  system  which  will  insure  conservative  business 
management  of  these  banks  Congress  has  undertaken  to  create  a 
board  of  directors  which  is  representative  of  the  interests  involved. 

It  is  provided  that  the  board  of  each  Federal  Reserve  Bank  shall 
consist  of  nine  members;  that  one-third  of  this  board,  to  be  known  as 
class  "C"  directors,  shall  be  selected  by  the  Federal  Reser\-e  Board, 
which  is  in  effect  the  representative  of  the  United  States  Government; 
that  one-Lhird  shall  be  known  as  class  "A"  directors  and  shall  consist 
of  three  members  who  shall  be  chosen  by  and  be  representati\e  of  the 
stockholding  banks;  and  that  the  remaining  one-third,  to  be  known 
as  class  "B  "  directors,  shall  consist  of  three  members  who  at  the  time 
of  their  election  shall  be  actively  engaged  in  their  district  in  commerce, 
agriculture,  or  some  other  industrial  pursuit.  The  make-up  of  this 
board  of  directors  is  therefore  representative,  first,  of  the  United  States 
Government,  second,  of  the  stockholding  banks,  and  third,  of  the  busi- 
ness representatives,  who  are  in  elTect  the  creditors  of  that  part  of  the 
public  which  deals  with  member  banks. 

In  other  words,  it  will  be  observed  that  class  ".\"  consists  of  rep- 
resentatives of  the  banks  or  those  who  are  intrusted  with  the  funds  of 
the  business  public  for  investment;  class  "B  "  consists  of  representa- 
tives of  the  public  who  are  furnishing  these  funds,  and  class  "C " con- 
sists of  the  representatives  of  the  Government,  which  undertakes  to 
supervise  the  proper  and  conservative  investment  of  such  funds. 

It  must  be  remembered,  however,  iliat  while  these  three  interests 
are  representative,  tlie  Board  when  organized  is  a  unit,  and  that  this 
Board  is  charged  witli  the  management  and  control  of  the  alTairs  of 
such  bank.  The  grouping  or  classification  relates  only  to  the  manner 
of  election,  and  not  to  their  status  after  election. 

When  by  election  In'  the  member  banks  or  by  ai)poinlment  by  the 
Federal  Reserve  Board  the  candidates  become  members  of  the  board 
of  directors  of  the  Federal  Reserve  Banks,  the  duties  and  obligations 
of  each  member  are  the  same.  It  is  true  that  the  Chairman  or 
Federal  Reserve  Agent  and  the  Deputy  Chairman  or  Deputy  Federal 


282  PRINCIPLES  OF  MONEY  AND  BANKING 

Reserve  Agent  who  are  members  of  the  board  occupy  dual  capacities, 
in  that  they  are  the  local  representatives  of  the  Federal  Reserve  Board 
in  addition  to  being  members  of  the  board  of  directors.  As  members, 
however,  their  duties  are  similar  to  those  of  class  "A"  and  class  "B" 
directors. 

In  order  to  insure  a  thoroughly  representative  board.  Congress  has 
provided  that  such  boards  shall  not  only  consist  of  the  three  interests 
referred  to,  namely,  the  Government,  the  banks,  and  the  business 
interests,  but  that  in  making  this  selection  each  district  shall  be  divided 
into  three  general  groups  or  divisions,  each  group  to  contain,  as  nearly 
as  may  be,  one-third  of  the  aggregate  number  of  member  banks  of 
similar  capitalization.  Each  one  of  these  groups  will  nominate  and 
elect  one  class  "A"  and  one  class  "B"  director,  so  that  the  directors 
will  be  selected  by  and  be  representative  of  not  only  the  stockholding 
banks  as  a  whole  but  of  the  several  classes  of  banks  included  within  each 
district.  This  does  not  mean  that  the  board  shall  necessarily  consist 
of  officers  or  directors  of  the  smallest  banks  as  well  as  officers  or 
directors  of  the  largest,  but  that  each  class  of  banks  shall  have  an 
opportunity  to  nominate  and  elect,  together  with  banks  of  similar 
capitalization,  either  from  their  own  or  from  any  other  group,  the 
candidate  best  suited,  in  the  opinion  of  such  banks,  to  perform  the 
important  duties  assigned  to  the  directors  of  Federal  Reserve  Banks. 
By  the  terms  of  the  law:  Group  No.  i  will  contain  approximately 
one-third  of  the  aggregate  number  of  banks  in  a  district  and  will  be 
composed  of  banks  of  the  largest  capitalization.  Group  No.  2  will 
include  approximately  one-third  of  the  aggregate  number  of  banks  in 
a  district  and  will  embrace  the  banks  having  the  next  largest  capi- 
talization. Group  No.  3  will  include  approximately  one-third  of  the 
aggregate  number  of  banks  in  a  district,  being  composed  of  those 
having  the  smallest  capitalization. 

B.     The  Practical  Working  of  the  System 

141.    DEFECTS  TO  BE  REMEDIED  BY  THE  ACT^ 

By  J.  LAURENCE  LAUGHLIN 

The  defects  in  our  banking  and  currency  system  which  were 
to  be  remedied  by  the  new  legislation  may  be  very  briefly  summarized 
as  follows:    an  inelastic  bank-note  circulation;    an  even  more  dan- 

'  Adapted  from  "The  Banking  and  Currency  Act  of  1913,"  Journal  of  Political 
Economy,  XXII  (1914),  302. 


THE  fedi;ral  rkserve  system  2S3 

gerously  inelastic  credit  system;  ineffective  use  of  a  large  sujiply  of 
gold;  a  scattering  of  reserves  and  lack  of  co-operative  action  by  banks 
in  times  of  stress;  a  rigid  reserve  system  which  induced  panics;  state 
banks  and  trust  companies  doing  a  commercial  l)usiness  but  in  different 
systems;  an  independent  Treasury  divorced  from  the  money  market 
which  imperiled  bank  reserves  in  times  of  difficulty;  the  drift  of  idle 
funds  to  the  call-loan  market  where  they  fed  stock  speculation,  and 
the  want  of  American  banking  faciUties  in  other  countries  to  aid  our 
foreign^trade. 

142.    THREE  TYPES  OF  BANK  NOTES  IN  THE  FUTURE' 

By  THOMAS  CO>fWAY  and  ERNEST  M.  PArfERSON 

I.      PARTIAL  RETENTION   OF   PRESENT   NOTES 

The  Federal  Reserve  Act  does  not  compel  the  national  banks  to 
retire  their  circulation.  They  may  increase  it  or  decrease  it  under 
the  old  regulations  and  within  the  old  limits  if  they  see  fit.  More- 
over, they  are  released  by  Section  17  of  the  act  from  the  old  require- 
ment to  purchase  a  stated  amount  of  United  States  bonds  before 
being  authorized  to  commence  the  banking  business. 

Retiring  the  national  bank  notes. — The  first  important  change  is 
that,  beginning  two  years  after  the  passage  of  the  act,  that  is  to  say, 
on  December  23,  1915,  member  banks  may  retire  their  circulation  in 
whole  or  in  part,  this  privilege  to  remain  open  for  a  period  of  twenty 
years  thereafter,  or  until  December  23,  1935.  Any  member  bank 
desiring  to  retire  any  or  all  of  its  circulating  notes  rnay  file  with  the 
Treasurer  of  the  United  States  an  application  to  sell  for  its  account, 
at  par  and  accrued  interest,  its  United  States  bonds,  now  held  in  trust 
at  Washington  against  the  circulation  that  is  to  be  retired. 

Disposition  of  the  United  States  bonds. — The  Treasurer  shall  notify 
the  member  banks  of  the  amount  of  bonds  sold  for  their  account  and 
these  banks  shall  then  assign  and  transfer  the  bonds  to  the  reserve 
bank  that  has  purchased  them.  The  reserve  bank  shall  then  deposit 
lawful  money  with  the  Treasurer  of  the  United  States  for  the  purchase 
of  the  bonds.  The  Treasurer  shall  deduct  from  this  payment  an 
amount  sufficient  to  redeem  the  outstanding  national  bank  notes  that 
have  in  the  past  been  secured  by  those  bonds,  and  shall  pay  the 
balance,  if  any  remains,  to  the  member  bank  that  formerly  owned 
them. 

'  Adapted  from  The  Operation  of  the  New  Bank  Act,  pp.  132-48.  (J.  B.  Lippin- 
cott  Co.,  1914.) 


284  PRINCIPLES  OF  MONEY  AND  BANKING 

The  reserve  banks  are  not  allowed  to  purchase  more  than 
$25,000,000  of  these  bonds  in  any  one  year,  and  even  this  amount  may 
be  reduced  if  they  choose  to  purchase  bonds  under  the  authorization 
in  Section  4.'  There  were  outstanding  on  December  26,  1913, 
$756,944,194  of  national  banks  notes,  against  which  were  held 
$16,147,911  of  lawful  money,  and  $743,173,000  of  United  States  bonds. 
If  all  the  national  banks  make  application  regularly  and  the  full 
$25,000,000  be  taken  over  by  the  Federal  reserve  banks  each  year, 
the  process  will  take  nearly  thirty  years.  e 

The  act  specifically  limits  the  retirement  process  to  a  period  of 
twenty  years.  Since,  as  we  have  seen,  it  would  take  nearly  thirty 
years,  at  the  rate  of  $25,000,000  a  year,  to  retire  all  the  outstanding 
notes,  each  bank  would  be  left  at  the  end  of  that  long  period  with 
approximately  one-third  of  its  bonds  still  on  hand.  If  we  deduct  the 
3  per  cent  and  4  per  cent  United  States  bonds  now  held  in  trust  and 
limit  ourselves  to  the  2  per  cent  bonds,  which  amount  to  $685,996,700, 
the  retirement  of  all  of  them  would  take  over  twenty-seven  years, 
and  at  the  end  of  twenty  years  the  banks  would  be  left  with  at  least 
$185,996,700  unprovided  for. 

Whether  bankers  will  wish  to  continue  their  issues  of  notes  as  of  old 
is  an  uncertain  matter.  If  United  States  bonds  remain  low  in  price 
their  cheapness  may  be  a  temptation,  as  in  the  past.  The  banks  may 
actually  be  encouraged  to  issue  notes.  If,  however,  they  fear  that 
the  purchases  by  the  new  reserve  banks  will  be  insufficient  to  sustain 
the  market,  they  may  prefer  to  retire  their  issues  as  promptly  as 
possible. 

n.      RESERVE  BANK  BOND-SECURED  NOTES 

Reserve  bank  notes  are  to  be  the  obligation  of  the  Federal 
reserve  bank  issuing  them  and  "shall  be  in  form  prescribed  by  the 
Secretary  of  the  Treasury,  and  to  the  same  tenor  and  effect  as 
national  bank  notes  now  provided  by  law.  They  shall  be  issued 
and  redeemed  under  the  same  terms  and  conditions  as  national 
bank  notes,  except  that  they  shall  not  be  limited  to  the  amount 
of  the  capital  stock  of  the  Federal  reserve  bank  issuing  them."  In 
other  words,  each  reserve  bank  may  issue  an  amount  of  these  notes 
that  is  limited  only  by  the  deposit  of  the  prescribed  security. 

Issues  of  bond-secured  currency  of  the  Federal  reserve  banks  may 
originate  in  two  ways,  although  all  of  the  notes  will  be  alike  in  form 

'  See  below. — Editor. 


THE  FEDERAL  RESERVE  SYSTEM  285 

and  in  security.  The  first  group  will  arise  through  the  retirement  of 
the  national  bank  notes.  The  reserve  banks  purchasing  these  notes 
may  deposit  them  in  trust  with  the  Treasurer  of  the  United  States, 
receiving  from  the  Comptroller  of  the  Currency  an  amount  of  circulat- 
ing notes  equal  to  the  par  value  of  the  bonds  so  deposited.  There  will 
thus  be  no  shrinkage  in  the  volume  of  the  currency,  the  amount  of  the 
new  reserve  notes  being  equal  to  the  national  bank  notes  that  are 
retired.  The  net  result  will  be  to  relieve  the  national  banks  of  tiie 
ownership  of  the  bonds  and  their  liability  for  the  notes,  and  to  trans- 
fer both  the  bonds  and  the  note  liability  to  the  reserve  banks. 

The  second  way  in  which  the  reserve  bank  notes  may  get  into  cir- 
culation is  under  the  provisions  of  Section  4.  The  eighth  of  the  powers 
conferred  upon  the  reserve  banks  in  that  section  stipulates  that  they 
may,  "upon  deposit  with  the  Treasurer  of  the  United  States  of  any 
bonds  of  the  United  States  in  the  manner  provided  by  existing  law 
relating  to  national  banks,"  receive  from  the  Comptroller  of  the  Cur- 
rency circulating  notes  equal  in  amount  to  the  par  value  of  the  bonds 
so  deposited.  These  notes  are  identical  with  the  ones  already 
described,  the  only  difference  being  that  in  the  first  case  the  bonds  are 
the  ones  that  now  secure  the  circulation  of  the  national  banks,  while 
in  the  second  the  bonds  may  not  have  been  securing  national  bank 
circulation  at  the  time  of  purchase,  and  may  have  been  bought  from 
other  owners  than  national  banks. 

The  significance  of  this  provision  lies  in  tlie  fact  that  it  creates  a 
market  for  United  States  bonds.  This  power  of  tlie  reserve  banks 
may  be  of  value  in  maintaining  the  price  of  the  bonds,  not  only  to  the 
advantage  of  the  present  holders  of  tliose  bonds,  but  also  to  the  advan- 
tage of  the  government.  It  is  also  important  because,  if  this  power 
is  exercised,  it  will  limit  the  amount  of  United  States  bonds  that  the 
reserve  banks  may  purchase  from  the  national  banks  to  retire  their 
circulation.  The  total  amount  they  are  permitted  to  purchase  from 
both  sources  may  not  exceed  $25,000,000  per  annum.  Most  of  our 
government  bonds  are  in  the  hands  of  the  national  banks.  The 
owners  of  the  balance,  who  are  the  trust  companies,  insurance  com- 
panies, and  the  general  public,  may,  especially  if  the  market  declines, 
dispose  of  their  holdings  to  the  reserve  banks,  which  will  be  tempted 
by  the  lower  prices  to  make  tlie  purchases,  since  tliey  may  exchange 
them  at  the  Treasury  Department  for  new  3  per  cent  bonds.  This 
may  be  done  to  such  an  extent  as  to  lessen  the  rapidity  with  which 
those  banks  could  purchase  from  the  national  banks. 


286  PRINCIPLES  OF  MONEY  AND  BANKING 

Refunding  the  2  per  cent  bonds. — If  the  reserve  banks  do  not  wish 
to  keep  these  notes  out,  and  wish  to  invest  in  United  States  securities 
bearing  more  than  2  per  cent  interest,  they  may  do  so  through  an 
arrangement  for  an  exchange.  "Upon  application  of  any  Federal 
reserve  bank,  approved  by  the  Federal  Reserve  Board,  the  Secretary 
of  the  Treasury  may  issue  in  exchange  for  United  States  2  per  cent 
gold  bonds  bearing  the  circulation  privilege,  but  against  which  no  cir- 
culation is  outstanding,  one-year  gold  notes  of  the  United  States  with- 
out the  circulation  privilege,  to  an  amount  not  exceeding  one-half  of  the 
2  per  cent  bonds  so  tendered  for  exchange,  and  thirty-year  3  per  cent 
gold  bonds  without  the  circulation  privilege  for  the  remainder  of  the  2 
per  cent  bonds  so  tendered. ' '  The  reserve  bank  may  thus  retire  its  note 
issues  in  the  same  way  as  the  national  banks  do  now,  and  then  make 
an  exchange  in  the  manner  described,  getting  3  per  cent  securities  in 
return  for  those  bearing  2  per  cent.  The  burden  of  the  additional 
I  per  cent  per  annum  interest  charge  will  fall  upon  the  government, 
an  arrangement  that  is  entirely  proper,  since  for  years  it  has  bor- 
rowed at  rates  lower  than  are  available  for  any  other  government  in 
the  world,  and  has  done  it  by  requiring  the  national  banks  to  buy 
bonds  as  a  prerequisite  to  securing  a  charter  and  issuing  notes. 

The  stipulation  that  "not  to  exceed  one-half  of  the  new  securities 
shall  be  one-year  gold  notes"  opens  the  way  for  a  reduction  in  the 
national  debt,  if  receipts  to  the  Federal  government  from  the  earnings 
of  the  reserve  banks  or  from  any  other  source  make  such  a  reduction 
possible.  The  reserve  bank  will  be  required,  upon  receipt  of  these 
notes,  to  agree  that  as  they  mature  year  after  year  it  will  purchase 
such  an  amount  of  new  one-year  3  per  cent  gold  notes  as  the  Secretary 
of  the  Treasury  may  tender  to  it,  not  to  exceed,  however,  the  amount 
of  such  notes  issued  to  the  bank  in  the  first  instance  in  exchange  for 
the  2  per  cent  bonds.  This  obUgation  to  purchase  notes  shall  continue 
for  a  period  not  to  exceed  thirty  years.  At  the  end  of  that  time,  if 
the  Secretary  of  the  Treasury  and  Congress  do  not  find  it  possible  to 
retire  these  notos  some  provision  for  refunding  them  can  be  made. 

III.      FEDERAL  RESERV'E    (aSSEt)    NOTES 

The  Federal  reserve  notes  are  to  be  issued  as  follows:  Any  reserve 
bank  may  make  application  to  the  local  Federal  reserve  agent  (that 
is,  the  chairman  of  its  own  board  of  directors)  for  such  amounts  of 
these  notes  as  it  may  require,  at  the  same  time  offering,  as  collateral 
security  therefor,  commercial  paper  and  bills  rediscounted  by  it  for 


THE  FEDERAL  RESERVE  SYSTEM  287 

member  banks.  This  security  must  be  at  least  equal  to  the  notes 
received.  Some  of  these  securities  may  from  time  to  time  be  with- 
drawn, with  the  approval  of  the  Reserve  Board,  if  at  the  same  time 
other  collateral  of  equal  amount  is  substituted.  The  Reserve  Board 
may  also  at  any  time  call  for  additional  security.  As  the  notes  may 
be  issued  for  no  other  purpose  than  in  exxhange  for  such  collateral, 
and  since  this  collateral  is  in  the  form  of  rediscounted  paper,  it  may 
be  said  that  the  notes  are  issued  only  through  rediscounting. 

They  will  be  in  denominations  of  $5,  Sio,  $20,  $50,  and  Sioo.  As 
there  are  no  specifications  as  to  the  relative  amounts  of  each,  it  is 
probable  that  the  kind  needed  will  always  be  furnished.  All  expenses 
incident  to  their  issue  and  retirement  must  be  met  by  the  reserve  bank 
receiving  them,  which  shall  also  pay  on  them  a  rate  of  interest  to  be 
determined  by  the  Reserve  Board.  Each  note  will  bear  the  distinctive 
number  of  the  reserve  bank  through  which  it  is  issued.  In  anticipa- 
tion of  demand  for  them  a  quantity  are  to  be  prepared  and  deposited 
in  the  Treasury  or  in  the  subtreasury  or  mint  of  the  United  States 
nearest  the  place  of  business  of  each  reserve  bank,  where  they  shall 
be  held  subject  to  the  order  of  the  Comptroller  of  the  Currency. 

143.    ELASTICITY  OF  NOTES  UNDER  THE  NEW  LAW 

By  FRED  M.  TAYLOR 

I.      SEASONAL  ELASTICITY 

First,  does  the  Federal  Reserve  Act  insure  the  expansibility  needed 
to  supply  adequate  funds  for  crop-moving  ?  At  this  point  it  must  at 
once  be  admitted  that  the  new  currency  does  not  meet  the  demands 
of  the  case  in  quite  the  thoroughgoing  way  which  earlier  schemes 
thought  to  be  necessary.  The  ideal  of  the  earlier  plans  was  to  provide 
an  adequate  and  easily  utilized  power  of  issue,  located  at  the  very 
place  where  the  need  for  expansion  is  felt,  i.e.,  in  the  local  bank.  The 
new  law  gives  up  this  idea  entirely.  The  local  bank  will  not  have 
power  to  issue  the  new  currency  at  all.  In  so  far  as  its  customers  are 
to  get  any  benefit  from  that  currency  the  benefit  must  come  through 
two  channels  which  the  country  bank  could  use  in  getting  the  needed 
funds,  even  if  the  currency  had  no  exixmsibility,  namely,  (i)  calling 
in  its  balances  kept  with  banks  more  centrally  situated,  and  (2)  bor- 
rowing from  such  central  banks.     In  otiier  words,  the  new  jujwer  of 

'Adapted  from  "Elasticity  of  Note  Issue  under  the  \e\v  Law,"  Journal  of 
Political  Economy,  XXII  (1914),  454-^10. 


288  PRINCIPLES  OF  MONEY  AND  BANKING 

issue  will  help  out  in  the  crop-moving  period  merely  because  it  will 
put  the  reserve  banks  in  a  better  position  to  respond  to  the  call  of 
the  country  banks  for  the  return  of  their  own  balances  and  for 
advances  on  discounted  paper.  Judged  from  this  point  of  view  only, 
the  elasticity  provided  by  the  new  law  is  doubtless  adequate.  If  the 
reserve  banks  have  not  kept  themselves  in  a  position  to  meet  the  calls 
of  their  country  members  from  money  already  in  possession,  they  will 
surely  be  able  to  put  themselves  into  such  a  position  by  expanding 
their  issue  of  notes.  In  one  sense,  then,  the  new  issue  has  adequate 
expansibility  for  ordinary  needs.  There  still  perhaps  remains  a  doubt 
whether  effective  elasticity  is  after  all  assured,  for  it  is  not  clear  that 
the  country  bank  which  needs  money  for  crop-moving  purposes  will 
have  the  wherewithal  to  get  advances  from  the  reserve  bank — that 
is,  that  it  will  have  paper  of  the  proper  kind  and  in  sufl&cient  amount 
for  rediscount.  However,  it  seems  probable  that  the  act  as  finally 
passed  has  met  this  need  by  providing  that  agricultural  paper  shall 
be  admitted  on  rather  more  liberal  terms  than  paper  arising  out  of 
ordinary  commercial  or  manufacturing  business.  If  this  be  so,  it 
would  seem  that  the  provisions  of  the  new  law  for  securing  one  phase 
of  seasonal  elasticity — expansibiUty — are  fairly  adequate.' 

Passing,  now,  to  the  other  side  of  elasticity — i.e.,  contractility — 
can  we  say  as  much  ?  Will  the  new  issues  promptly  retire  when  their 
special  task  is  over  ?  Prima  facie,  the  verdict  is  less  favorable  than 
in  the  previous  case.  In  general  there  are  two  principal  processes  by 
which  a  note  circulation  may  be  contracted:  (i)  driving  the  notes  out 
of  circulation,  and  (2)  drawing  them  out.  In  so  far  as  the  former 
process  is  depended  upon,  means  are  devised  to  make  sure  that  the 
notes  shall  persistently  return  to  the  issuer  even  against  his  will — 
they  shall  have  good  homing  power.  By  the  second  process  it  is  made 
to  the  advantage  of  the  issuer  of  the  notes  to  hasten  their  withdrawal 
himself. 

As  respects  insuring  contractility  by  the  former  of  these  processes, 
the  act  certainly  cannot  claim  to  promise  high  efficiency.  The  driving- 
out  process  requires  roughly  the  fulfilment  of  two  conditions :  (i)  keep- 
ing the  charmels  for  the  return  of  notes  to  the  issuer  fairly  open,  and 
(2)  supplying  outsiders  with  a  motive  for  sending  the  notes  home. 
As  regards  the  former  of  these  conditions,  the  new  system  probably 
is  all  right.  The  return  of  the  notes  to  the  issuer  seems  not  to  be 
impeded  by  the  inconvenience  and  expensiveness  of  the  process.    All 

'On  this  point,  see  selections  Nos.  144  and  145. — Editor. 


THE  FEDERAL  RESERVE  SYSTEM  289 

member  banks  and  all  reserve  banks  must  receive  these  notes,  and 
the  reserve  banks  will  probably  have  branches  within  easy  reach  of 
any  part  of  the  district.  Hence,  any  holder  desiring  to  get  notes 
back  to  the  issuing  bank  will  find  the  process  easy  and  the  way  open. 
But  good  homing  power  requires  more  than  this.  It  requires,  namely, 
that  adequate  motives  be  supplied  to  people  generally,  or,  at  least, 
to  banks  generally,  for  seeing  that  the  notes  get  back.  It  is  not 
enough  that  the  track  be  smooth;  people  must  desire  to  use  it.  Now, 
earUer  plans  for  securing  elasticity  relied  on  two  principal  motives  for 
inducing  holders  to  send  notes  back  to  the  issuer:  (i)  the  desire  of 
such  holders  to  make  room  for  their  own  notes,  and  (2)  tlieir  desire  to 
exchange  money  which  has  various  limitations  imposed  upon  it  for 
money  which  is  free  from  tliose  limitations.  It  is  plain  that  the  new 
system  makes  only  a  limited  use  of  the  former  of  these  methods  of 
procedure.  Within  the  district  for  which  any  particular  reserve  bank  is 
the  central  bank  this  particular  force  will  be  practically  inoperative; 
for  the  power  to  issue  notes  on  the  basis  of  common  assets  is  not  given 
to  any  but  reserve  banks,  and  the  profitableness  of  the  power  to  issue 
the  old  type  of  note  has  always  proved  too  slow  to  induce  banks 
generally  to  take  much  trouble  to  get  their  notes  into  circulation.  As 
between  the  reserve  banks  of  the  different  districts,  however,  this  par- 
ticular motive  will,  of  course,  be  more  or  less  in  evidence,  since  these 
reserve  banks  will  all  be  competitors  for  this  opportunity.  But  even 
here  more  effective  means  for  insuring  the  return  of  the  notes  from 
outside  banks  are  provided  in  other  parts  of  the  law. 

As  regards  the  second  motive  for  returning  idle  notes — that  is,  the 
desire  to  exchange  a  money  subject  to  those  limitations — the  new  act 
does  somewhat  better  than  it  does  in  respect  to  the  first  motive.  It 
is,  indeed,  true  that,  within  their  own  district,  no  special  disability, 
like  being  forbidden  to  be  paid  out  by  other  banks,  is  put  on  the  new 
notes.  But  they  are  always  subject  to  the  disability  of  not  being 
legal  reserve  money  in  the  case  of  federal  banks;  and  hence  such  banks 
will  be  more  or  less  disposed  to  return  the  notes  issued  by  their  own 
reserve  banks  in  order  to  exchange  them  for  reserve  money.  It  may 
be  doubted,  however,  whether  in  ordinary  times  this  will  prove  a  very 
potent  force,  since  country  banks  will  usually  keep  reserves  consider- 
ably in  excess  of  legal  requirements,  and  so  will  not  need  to  discrimi- 
nate nicely  between  the  two  sorts  of  money.  As  between  districts, 
the  case  for  the  homing  power  of  the  new  notes  is  rather  stronger, 
since  reserve  banks  are  prohil)ited  from  paying  out  the  notes  of  other 


290  PRINCIPLES  OF  MONEY  AND  BANKING 

reserve  banks  under  penalty  of  a  10  per  cent  tax.  Even  here,  however, 
the  provisions  are  none  too  adequate.  While  the  notes  of  a  particular 
reserve  bank  must  not  be  paid  out  by  the  reserve  banks  of  other  dis- 
tricts, there  is  no  prohibition  against  their  being  paid  out  by  the 
member  banks  of  other  districts;  and  it  is  doubtful  whether  there  is 
sufficient  motive  to  induce  said  member  banks  of  other  districts  to 
send  in  these  notes  to  their  own  reserve  banks  and  so  start  them  on 
their  homeward  journey.  The  desire  to  exchange  money  which  can- 
not be  used  as  reserve  for  that  which  can  be  would  have  some  force; 
but,  under  many  circumstances,  it  would  probably  prove  rather 
inadequate. 

Another  disability  which  contributes  to  the  homing  power  of  a 
bank  note,  and  which  is  actually  used  in  the  case  of  our  old  notes,  is 
not  used  with  this  new  note — I  mean  the  fact  that  they  are  not 
receivable  for  customs  dues.  The  decision  to  omit  this  provision  was 
perhaps  wise;  but  it  throws  out  a  potent  motive  for  sending  notes 
home,  and  thus  throws  away  an  opportunity  to  make  better  provision 
for  their  contractility.  On  the  whole,  it  must  be  acknowledged  that, 
in  so  far  as  homing  power  is  dependent  on  giving  to  outsiders  strong 
and  persistent  motives  for  sending  notes  home,  the  new  law  is  not 
altogether  satisfactory. 

We  have  seen  that  there  is  very  little  in  the  new  system  to  secure 
that  the  notes  shall  have  good  homing  power — shall  get  home  by  what 
we  have  called  the  driving-in  process.  Is  the  system  better  off  as 
respects  the  drawing-in  process?  Are  matters  so  arranged  that  the 
issuing  bank  will  have  the  power  and  the  desire  to  withdraw  its  notes — 
or  at  least  contract  the  currency  proportionately — when  the  need  for 
the  notes  has  fallen  off  ?  As  respects  the  first  part — making  sure  that 
the  issuing  bank  shall  have  the  power  to  retire  its  notes,  or  at  any 
rate  to  effect  a  corresponding  contraction  of  the  currency — the  new 
system  is  practically  perfect,  as  indeed  was  the  old  one.  That  is,  any 
reserve  bank  desiring  to  contract  its  note  obligations  may  at  its  dis- 
cretion deposit  with  the  federal  reserve  agent  reserve  notes,  gold,  or 
lawful  money.  Obviously  this,  if  not  strictly  a  contraction  of  its  note 
circulation,  at  least  brings  about  the  desired  contraction  of  the  general 
circulation. 

When,  however,  we  consider  the  provisions  of  the  new  law  for 
insuring  that  reserve  banks  shall  desire  to  contract  their  circulation 
when  the  special  need  has  passed,  we  find  that  the  law  does  not  promise 
quite  so  well.     The  favorite  device  for  accomplishing  this  result  has 


THE  FEDER.\L  RESERVE  SYSTEM  291 

been,  of  course,  a  tax  on  issues  similar  to  the  5  per  cent  tax  of  the 
German  system.  Apparently,  the  new  law  provides  for  something 
equivalent  to  this  in  the  shape  of  an  interest  charge  by  the  Federal 
Reserve  Board,  the  rate  to  be  fixed  by  said  board.  How  far  this 
device  will  prove  effective  in  practice  is  not  safe  to  predict.  In  order 
that  it  should  induce  the  banks  to  contract  their  circulation,  circum- 
stances must  have  arisen  under  which  the  issuing  bank  would  be  earn- 
ing on  its  outstanding  notes  a  profit  smaller  than  the  tax  itself.  Now, 
it  does  not  seem  certain  that  an  excessive  issue  of  notes  would  neces- 
sarily bring  about  this  condition.  In  the  first  place,  in  the  absence  of 
good  homing  power,  a  volume  of  notes  in  excess  of  business  needs 
would  not  necessarily  cause  an  accumulation  of  those  notes  in  the 
vaults  of  the  bank  issuing  them.  Secondly,  so  long  as  member  banks 
are  free  to  keep  their  balances  in  banking  institutions  other  than  their 
reserve  banks  an  excess  of  notes  would  not  necessarily  cause  the 
general  cash  holdings  of  reserve  banks  to  be  abnormally  large.  For 
so  long  as  the  ordinary  New  York  banks  are  permitted  to  pay  interest 
on  bankers'  balances,  country  banks  will  to  a  considerable  extent 
keep  their  balances  with  these  outside  New  York  banks;  and  it  seems 
not  unhkely  that  the  excessive  monetary  stock  thus  accumulating  in 
New  York  City  would,  instead  of  getting  into  the  hands  of  the  New 
York  reserve  bank,  largely  remain  in  the  hands  of  the  outside  l)anking 
institutions  and  be  emjjloyed  more  or  less  as  it  has  been  in  the  past; 
that  is,  in  financing  doubtful  enterprises  and  supporting  excessive 
speculation.  But  if  the  reserve  banks  do  not  feel  the  pressure  of 
excessive  issues  in  the  shape  of  accumulations  of  notes  or  some  form 
of  money  in  their  own  vaults,  they  may  conceivably  be  able  to  invest 
advantageously  all  the  funds  in  their  possession,  and,  in  that  case,  the 
rate  of  interest  charged  by  the  Federal  Reserve  Board  will  not  furnish 
an  adequate  motive  for  the  retirement  of  their  issues.  Doubtless,  how- 
ever, this  may  in  some  degree  be  answered  by  sa>'ing  that  e\en  an 
excess  which  was  felt  only  outside  the  reserve  bank  woukl,  after  all, 
compel  the  reserve  bank  to  contract  its  issues,  since  it  would  lower  the 
rate  of  discount  so  greatly  that  reserve  banks  could  not  profitably 
invest  their  ordinary  holdings,  and  consequently  woukl  wish  to  get 
rid  of  the  interest  charge.  Perhaps  this  is  true;  but  it  would  by  no 
means  insure  the  promi)t  and  full  contraction  which  most  reformers 
have  considered  desirable. 

From  the  foregoing  it  would  seem  that  one  of  the  devices  for  indu- 
cing the  reserve  ])anks  to  contract  their  issues  after  the  need  for  them 


292  PRINCIPLES  OF  MONEY  AND  BANKING 

had  passed — that  is,  charging  interest  upon  such  issues — is  not  certain, 
at  any  rate,  to  prove  adequate;  it  will  not  surely  eliminate  the  winter 
pletliora  in  New  York  City  which  is  supposed  to  stimulate  and  sup- 
port excessive  stock  speculation.  But  the  new  law  contains  another 
provision  which  may  be  viewed  as  a  device  for  supplying  the  issuing 
banks  with  a  motive  for  contracting  their  issues,  namely,  the  require- 
ment that  such  banks  shall  keep  a  gold  reserve  equal  to  40  per  cent 
of  their  issues.  Is  this  likely  to  prove  effective?  Probably  not. 
Whatever  might  be  true  in  panicky  times,  it  seems  certain  that  in  an 
ordinary  year  the  gold  holdings  of  a  reserve  bank  will  be  much  above 
40  per  cent  of  its  note  issue.  If  this  is  true,  the  maintenance  of  this 
40  per  cent  could  become  difficult  only  when  the  excess  of  money  was 
so  great  as  to  cause  a  dangerous  exportation  of  gold  from  the  countr\', 
and  this  surely  would  show  a  very  inadequate  degree  of  contractility. 
In  short,  the  new  law  does  not  insure  that  issuing  banks  shall  be 
sufficiently  disposed  to  draw  in  their  notes  any  more  than  it  insures 
that  outsiders  will  drive  them  in.  It  would  seem,  then,  that  the  new 
law  does  not  promise  to  give  to  the  note  issue  the  degree  of  con- 
tractility which  has  heretofore  been  considered  desirable.  In  other 
words,  there  is  some  point  in  the  fear  expressed  by  many  bankers  that 
the  new  law  will  result  in  note  inflation — at  least  in  so  far  as  the  avoid- 
ing of  this  danger  is  dependent  on  the  contractility  of  the  note  issue. 
Very  likely,  however,  the  possibility  of  such  inflation  is  sufficiently 
guarded  against  by  other  provisions  of  the  law. 

II.      ELASTICITY  IN  TIME   OF   CRISIS 

The  banking  panic,  when  fully  develop'ed,  gives  rise  to  three  diffi- 
culties and  so  to  three  needs:  (i)  funds  to  relieve  the  antecedent 
stringency  which  threatens  a  complete  collapse  of  the  credit  structure; 
(2)  a  circulating  medium  for  ordinary  trade  when  a  general  suspension 
of  payments  by  the  banks  has  brought  on  a  money  famine;  and  (3)  a 
prompt  and  thoroughgoing  contraction  of  the  circulation  in  the  depres- 
sion which  follows  the  panic. 

I.  There  surely  can  be  no  doubt  that,  under  the  new  law,  the 
availability  of  an  issue  sufficient  in  volume  instantly  to  relieve  the 
antecedent  stringency,  and  so  to  put  a  stop  to  a  panic  before  it  has 
developed  serious  dimensions,  is  assured.  In  fact,  it  is  not  at  all 
improbable  that,  under  the  new  system,  the  reserve  banks  wdll  be  able 
to  check  the  development  of  such  a  panic  at  the  very  outset  without 
increasing  at  all  their  note  issues.    But  if  this  does  not  prove  true — 


THE  FEDERAL  RESERVE  SYSTEM 


293 


if  it  turns  out  that  more  currency  is  needed  for  this  purpose — there 
would  seem  to  be  no  shadow  of  doubt  that  the  new  system  will  insure 
the  forthcoming  of  such  currency  both  of  a  quality  and  in  a  quantity 
which  will  be  fully  adequate  to  the  task  put  upon  it.  (a)  The  notes 
to  be  issued,  being  obligations  of  the  federal  Treasury,  will  be  as  accept- 
able as  gold  on  the  eve  of  a  panic,  (b)  There  is  no  limit  to  the  absolute 
amount  of  these  notes,  (c)  The  practical  Umit  set  by  the  requirement 
that  discounted  paper  shall  be  furnished  as  a  basis  for  their  issue  is 
of  no  real  significance,  since  such  pa])cr  will  undoubtedly  be  vastly 
greater  in  volume  than  any  need  which  could  arise.  Accordingly, 
there  can  be  no  doubt  that  the  new  system  provides  all  the  expansi- 
bility needed  to  abort,  or  reduce  to  comparative  harmlessness,  any 
panic  which  might  arise. 

2.  If  panics  should  develop,  however,  and  the  banks  be  forced  to 
suspend  specie  payments,  does  the  new  law  insure  an  expansion  of 
notes  to  meet  the  needs  of  ordinary  trade  ?  Our  verdict  in  such  an 
event  would  necessarily  be  less  favorable.  We  should  have  to  admit 
that  the  new  law  does  little  or  nothing  to  relieve  such  a  situation. 
Broadly  speaking,  the  new  money  will  be  altogether  too  good  to  meet 
this  particular  need.  Banks  that  had  reached  a  stage  of  panic  suffi- 
ciently intense  to  cause  them  to  suspend  payments — to  hoard  the 
ordinary  forms  of  money — would  be  sure  to  hoard  money  as  good  as 
those  notes  are  bound  to  be.  That  is,  the  new  issue  would  immedi- 
ately pass  into  hoards,  as  did  the  greenbacks  which  the  Secretary  of 
the  Treasury  reissued  during  the  panic  of  1873,  and,  therefore,  would 
bring  little  if  any  reUef  to  the  currency  famine  which  had  developed. 
In  fact,  it  is  almost  impossible  to  conceive  any  form  of  note  fitted  for 
this  particular  task  except  one  which  was  so  bad  that  tliere  was  no 
danger  of  its  being  hoarded.  That  is,  the  only  proper  way  to  meet 
this  particular  need  of  a  severe  panic  is  to  make  sure  that  it  docs  not 
arise  at  all;  and,  in  this  respect,  the  new  law  promises  well. 

3.  We  come,  finally,  to  the  third  need  which  emergency  elasticity 
is  supposed  to  meet,  that  is,  a  prompt  and  great  contraction  of  the 
circulation  when  the  panic,  if  one  should  develop,  has  passed  and  the 
inevitable  business  depression  consequent  upon  such  a  panic  has  set 
in.  While  we  shall  doubtless  escape  the  extreme  business  inflations 
of  former  ante-panic  periods,  nevertheless  it  can  hardly  be  doubted 
that,  after  an  incipient  panic,  there  will  be  some  reaction,  and  conse- 
quently a  more  or  less  plethoric  condition  of  the  currency  will  follow. 
Will  tlie  new  issue  have  sufficient  contractility  to  meet  this  need  ? 


294  PRINCIPLES  OF  MONEY  AND  BANKING 

Earlier  in  this  paper  we  have  seen  that  the  conditions  attached  to  the 
new  issue  are  in  general  not  favorable  to  contractility,  in  that  they  do 
not  provide  for  either  the  prompt  driving  home  or  the  prompt  drawing 
home  of  the  notes  when  the  necessity  for  their  issue  is  past.  Out- 
siders lack  adeciuate  motives  for  sending  the  notes  home ;  issuers  lack 
adequate  motives  for  calling  them  home.  The  case  for  emergency 
contractility,  however,  is  somewhat  better  than  the  case  for  ordinary 
contractility.  First,  it  is  probable  that  the  homing  power  of  the  note 
will  prove  greater  at  such  a  time  than  in  an  ordinary  year,  for,  at  such 
a  time,  outside  banks  will  not  be  able  to  find  investments  for  their 
funds,  since  speculative  trading  will  disappear  altogether  and  business 
generally  will  be  at  a  very  low  ebb.  Again,  it  seems  certain  that  the 
issuing  bank  will,  in  this  case,  have  more  than  the  usual  motive  for 
bringing  about  a  contraction  of  the  circulation.  The  chief  reason  why 
such  a  bank  may  not  be  eager  in  ordinary  times  to  hasten  the  retire- 
ment of  its  notes  is  the  fact  that,  provided  the  notes  do  not  accumu- 
late in  its  own  vaults,  such  a  bank  will  gain  more  by  using  the  funds 
in  its  possession  to  make  loans  than  it  would  by  using  them  to  retire 
notes,  assuming  that  the  interest  charge  made  by  the  Federal  Reserve 
Board  is  not  placed  excessively  high.  But  it  is  practically  certain  that, 
in  the  depression  which  follows  a  panic,  no  reserve  bank  will  have 
opportunities  for  keeping  all  of  its  funds  busy ;  and  since,  in  that  case, 
the  interest  charge,  however  small,  will  be  a  dead  loss,  the  bank  wUl 
have  adequate  motives  for  effecting,  as  promptly  as  possible,  an  ade- 
quate contraction  of  its  note  liabilities.  This  motive  would  be  still 
further  strengthened  should  the  glut  prove  sufficient  to  cause  a  decided 
drain  of  gold,  since,  in  that  case,  the  reserve  banks  will  find  diffi- 
culty in  maintaining  the  required  40  per  cent  reserve.  On  the  whole, 
then,  we  seem  warranted  in  affirming  that,  as  respects  emergency 
elasticity,  the  new  notes  wUl  give  no  serious  disappointments. 

Finally,  as  respects  elasticity  in  general,  though  the  note  issue, 
viewed  by  itself,  does  not  seem  quite  fitted  to  satisfy  the  tests  which 
an  old-fashioned  advocate  is  inclined  to  impose  upon  it,  yet,  when 
we  take  the  new  law  as  a  whole,  it  seems  not  unreasonable  to  affirm 
that  it  promises  to  accomplish,  directly  or  indirectly,  most  of  the  ends 
which  we  had  hoped  to  attain  through  elasticity,  and  hence  promises 
to  give  us  a  system  which  in  essentials  is  truly  and  adequately  elastic. 


THE  FEDERAL  RESERVE  SYSTEM  295 

144.    ELASTICITY  OF  CREDIT  UNDER  THE  NEW  LAW 
By  J.  LAURENCE  LAUGHLIN 

How  does  the  act  touch  the  reserves  and  the  rediscounts  so  that 
it  may  bring  about  the  much-desired  elasticity  of  credit  ?  This  is  the 
nerve  center  of  the  whole  act.  The  pivotal  provisions  are  those  which 
allow  any  member  bank  to  have  certain  kinds  of  short-time  i)aper 
rediscounted  at  its  Federal  Reserve  Bank.  At  this  institution  the 
loan  creates  in  favor  of  the  borrowing  bank  a  deposit-account.  Then 
the  pith  of  the  operation  resides  in  the  fact  that  all  sums  kept  on 
deposit  at  a  Reserve  Bank  count  as  legal  reserves  for  the  given  mem- 
ber bank.  That  is,  the  rigidity  of  credit-banking  in  the  past,  the 
destructive  snatching  for  reserv^es,  are  displaced  by  a  system  which 
allows  good  commercial  paper — under  certain  limitations — to  be  con- 
verted into  lawful  reserves.  This  is  the  process  which  directly 
touches  the  lending  power  of  a  member  bank  to  its  customers.  There- 
fore in  a  time  of  panic — if  any  such  arrives — there  will  be  no  reason 
for  a  run  on  cash  reserves,  or,  if  there  is  a  semblance  of  it,  there  will 
be  a  quick  and  ready  way  by  which  the  reserves  can  be  replenished. 
There  can  be  no  serious  run  on  the  cash  by  the  public,  because  the 
member  bank  can  furnish  at  will  reserve  notes  by  making  request  for 
them  at  the  Reserve  Bank  and  having  them  charged  against  its 
deposit-account  there.  But  it  must  still  be  kept  in  mind  that  banks 
deal  primarily  in  credit  and  only  incidentally  in  money.  A  sale  of 
goods,  which  forms  the  basis  of  commercial  paper,  is  thereby  coined 
into  a  means  of  payment,  and  gives  rise  to  its  own  medium  of  exchange 
without  necessarily  calling  on  any  forms  of  money.  And  yet  the 
elasticity  of  the  notes  and  of  credit  are,  as  they  should  be,  linked 
together.  In  short,  both  notes  and  deposits  (on  which  checks  can  be 
drawn)  respond  directly  to  the  volume  of  commercial  loans,  and 
these  loans  are  directly  related  to  the  general  volume  of  goods  bought 
and  sold.  Thus  automatically  the  amount  of  notes  and  the  deposits 
adjust  themselves  to  the  needs  of  trade.  This  outcome  is  one  which 
no  system  of  notes  directly  issued  by  a  govcnmient  could  possil)ly 
bring  about. 

Such  being  the  provisions  of  the  new  act  regarding  elasticity  of 
credit,  arc  there  any  dangers  of  ex})ansion  ?     Fortunately  the  essential 

•  Adapted  from  "The  Banking  and  Currency  Act  of  1913,"  Journal  of  Polilical 
Economy,  XXII  (1914),  423-29. 


296  PRINCIPLES  OF  MONEY  AND  BANKING 

functions  of  discount  are  not  hemmed  in  by  detailed  legislative  prohi- 
bitions; fortunately,  one  must  say,  because  discounting  must  always 
remain  a  matter  of  judgment,  and  much  must  be  left  to  the  manage- 
ment. Yet,  on  the  other  hand,  this  very  freedom  from  restraint  might 
result,  under  imwise  management,  in  inflation  and  danger.  This  is 
inherent  in  the  very  nature  of  banking;  since  under  any  system,  good 
or  bad,  everything  depends  upon  the  kinds  of  loans  made. 

Those  loans,  it  should  be  noted,  which  result  in  deposit-accounts 
at  Federal  Reserve  Banks  (and  which  are  not  drawn  down  by  requests 
for  notes),  directly  increase  the  reserves  of  member  banks  until  trans- 
ferred by  check.  Thus  the  lending  power  of  the  member  bank  is 
more  quickly  and  extensively  enlarged  by  this  process  than  by  the 
issue  of  notes.  Herein  lies  the  pivotal  question  of  overexpansion. 
Passing  by  the  question  of  overexpansion  through  the  issue  of  notes, 
it  is  desired  mainly  to  study  here  that  arising  only  from  the  use  of 
deposit-accounts  and  checks,  because  these  operations  are  less  under- 
stood and  are  more  elusive.  Here  the  possibihty  of  expansion  is  even 
greater  than  in  connection  with  notes,  because  the  proceeds  of  a  loan 
at  a  Reserve  Bank,  if  left  there,  at  once  count  as  reserves,  and  permit 
another  increase  of  loans. 

To  this  possibility  of  serious  expansion  what  are  the  checks  to  be 
found  in  the  bill  ?    They  may  briefly  be  listed  as  follows : 

1.  The  Reserve  Banks  must  carry  against  deposits  reserves  of  35  per 
cent  in  gold  or  lawful  money.  But  expansion  will  develop  first  in  the  mem- 
ber banks;  and  they  are  not  required  to  keep  as  large  reserves  against 
deposits  as  before.  They  can  make  more  profit  with  the  same  reserves  by 
carrying  more  loans.  Thus  there  is  no  restriction  here,  except  that  of 
refusal  of  loans  by  the  Reserve  Bank. 

2.  The  Reserve  Banks  can  use  the  rate  of  discount  as  a  means  of  pre- 
venting undue  expansion.  This  is  the  real  means  of  control  over  expansion 
in  Europe.  The  rate  of  discount  must  be  raised  early  and  not  after  the 
expansion  has  arrived.  Watch  must  be  kept  on  the  particular  bank  begin- 
ning to  expand  its  loans,  and  the  treatment  must  be  individually  apphed 
at  the  source. 

3.  A  still  more  important  check  resides  in  the  provision  (sec.  13)  that 
Reserve  Banks  shall  rediscount  only  "notes,  drafts,  and  bills  of  exchange 
arising  out  of  actual  commercial  transactions,"  having  a  maturity  of  not 
over  90  days,  although  a  limited  amount  of  hve-stock  paper  may  have  a 
maturity  not  exceeding  six  months.  The  final  definition  of  aU  such  paper 
is  left  to  the  Reserve  Board.  But  loans  secured  by  investment  security 
cannot  be  rediscounted.    The  spirit  of  the  act  forbids  loans  for  carrying 


THE  FEDERAL  RESER\'E  SYSTEM  297 

goods  in  storage  for  a  higher  price,  and  should  confine  loans  to  pa[>er  based 
on  goods  actually  sold.  Just  how  to  define  such  paper  lays  a  heavy  respwnsi- 
bUity  on  the  Federal  Board.  On  it  will  finally  depend  the  kind  of  assets 
allowed  to  Reserve  Banks. 

4.  A  real  restriction  exists  in  making  rediscounts  on  only  short-time 
paper;  but  90  days  is  somewhat  too  long  for  the  best  Uquidity  of  assets. 
It  was  asserted,  however,  that  country  banks  would  gain  no  advantage  by 
the  new  system  because  they  had  httle  or  no  short-time  paper.  The  call  of 
the  Comptroller  of  August  9,  1913,  showed  that  the  6,736  country  banks 
held  $1,735,000,000  loans  having  a  maturity  of  90  days  or  less  and 
$1,137,000,000  maturing  over  90  days.  That  is,  one-half  has  a  maturity 
of  90  days  or  less.  In  the  city  banks  the  ratio  is  58  per  cent  90  days  or  less 
to  42  per  cent  over  90  days.  There  is  obviously  enough  paper  to  allow 
of  expansion  so  far  as  quantity  goes.  The  real  check  must  be  in  passing  on 
the  paper. 

5.  The  exclusion  of  investment  paper  cuts  off  all  possibility  of  expansion 
by  stock  exchange  speculation  through  the  help  of  rediscounts  at  Reserve 
Banks. 

6.  Rediscounts  at  the  Reserve  Banks  must  be  indorsed  by  the  borrow- 
ing bank.    Hence  there  will  be  some  check  here. 

7.  Also,  no  member  bank  may  loan  more  than  10  per  cent  of  its  capital 
and  surplus  to  any  one  person  or  firm.     That  is  much  the  same  now. 

8.  A  real  check  is  found  in  the  restriction  of  discounts  on  acceptances 
to  those  based  on  importation  or  exportation  of  goods;  and  even  these  shall 
not  exceed  one-half  the  paid-up  capital  and  surplus  of  the  borrowing  member 
bank.  The  omission  of  domestic  acceptances  is  a  serious  handicap  to  the 
desired  discount  market,  but  it  works  toward  a  restriction  of  potential 
expansion.' 

9.  In  practice  the  paper  must  pass  rigid  scrutiny  in  more  than  one  step. 
First,  it  must  satisfy  the  member  bank;  secondly,  it  must  be  satisfactory 
to  the  Reserve  Bank;  and,  thirdly,  if  notes  are  wanted,  it  must  pass  the 
judgment  of  the  Agent  of  the  Reserve  Board. 

10.  The  power  of  the  Reserve  Board  to  examine  into  the  operations  of 
reserve  banks,  and  the  frequent  or  special  examinations  of  member  banks, 
will  give  an  important  control  over  expansion,  or  unsound  banking,  if 
legitimately  used  (sees.  21,  22,  23). 

11.  Again,  it  is  to  be  noted  that,  in  rediscounting,  a  large  number  of 
individual  banks  will  be  related  to  each  other  in  a  co-operative  fashion. 
Something  of  an  institutional  character  has  been  introduced,  and  it  is  pos- 
sible to  place  responsibility  here  and  there  as  was  never  possible  before. 
This  development  should  gradually  and  by  experience  prove  of  importance 
in  controlling  overexpansion. 

■  This  has  since  been  modified.     Sec  below,  selection  No.  154. — Editor. 


29«  PRINCIPLES  OF  MONEY  AND  BANKING 

It  must  be  emphasized  that  the  possiI)iUties  of  undue  expansion 
of  credit  cannot  be  removed  by  any  legal  provisions  in  an  act.  It 
may  create  machinery,  but  the  speed  with  which  it  will  be  run  will 
depend  upon  the  judgment  of  the  man  at  the  throttle.  Elasticity  of 
credit  has  been  given  us  with  all  its  possibilities  of  good  to  business, 
together  with  all  its  possibilities  for  abuse.  The  whole  safety  of  our 
credit  fabric,  therefore,  rests  upon  those  who  pass  on  the  paper  dis- 
counted. Consequently,  the  success  of  the  new  system  depends  pri- 
marily on  the  men  selected  to  manage  the  several  Reserve  Banks. 
In  practical  operation  they  are  more  important  than  those  on  the 
Reserve  Board. 

145.    AID  IN  THE  MOVING  OF  CROPS  UNDER  THE 
NEW  SYSTEM^ 

The  first  public  deposits  made  by  the  Secretary  of  the  Treasury 
in  the  Federal  reserve  banks  was  on  September  4-7,  19 15.  In  speak- 
ing of  these  deposits  the  Secretary  makes  the  following  statement: 

After  a  conference  with  my  colleagues  in  the  Federal  Reserve  Board  I 
have  concluded  that  the  best  plan  for  extending  aid  to  the  cotton  producers 
of  the  South  is  to  deposit  the  $30,000,000  in  gold,  concerning  which  I  made 
an  announcement  a  short  time  ago,  in  the  three  Federal  reserve  banks 
located  at  Richmond,  Atlanta,  and  Dallas  instead  of  in  the  member  banks 
of  the  Federal  reserve  system. 

Five  million  dollars  ($5,000,000)  will  be  deposited  immediately  in  each 
of  these  banks,  making  a  total  initial  deposit  of  $15,000,000.  The  Federal 
reserve  banks  have  the  organization,  the  knowledge  of  local  conditions,  and 
the  powers  under  the  Federal  reserve  act  and  the  regulations  of  the  Federal 
Reserve  Board  through  which  the  proposed  aid  may  be  most  effectively 
rendered. 

Today  the  Board  adopted  regulations  concerning  "commodity  paper." 
Under  these  regulations  all  national  banks  and  State  banks  which  are  mem- 
bers of  the  Federal  reserve  system,  which  may  lend  money  to  farmers  or 
others  on  notes  secured  by  cotton,  properly  warehoused  and  insured,  at  a 
rate  of  interest,  including  commissions,  not  exceeding  6  per  cent  per  annum, 
may  rediscount  such  notes  with  the  Federal  reserve  bank  of  their  district. 
To  illustrate  how  the  proposed  relief  is  available  to  the  cotton  producer  the 
following  is  given  as  an  example :  A  borrower  asks  his  local  bank  for  a  loan 
on  his  note,  secured  by  warehouse  receipts  for  cotton.  If  the  bank  is  satis- 
fied that  the  cotton  is  in  a  responsible  warehouse,  properly  insured,  and  that 
the  note  is  good,  it  may  make  the  loan.    If  the  local  bank  charges  the  bor- 

'  From  Federal  Reserve  Bulletin,  October,  1915,  p.  301. 


THE  FEDERAL  RESERVE  SYSTEM 


299 


rower  a  rate  of  interest,  including  commission,  not  exceeding  6  per  cent  per 
annum,  it  may  indorse  the  note  over  to  the  Federal  reserve  bank  of  its  dis- 
trict, and  the  Federal  reserve  bank  may  advance  to  the  local  bank  the  full 
amount  of  the  loan.  The  rate  of  interest  which  the  Federal  reserve  bank 
will  charge  the  local  bank  will  be  sufticicnlly  low,  say  3  per  cent,  to  enable 
the  local  bank  to  make  loans  at  a  rate  of  interest  not  exceeding  6  per  cent 
per  annum  and  have  a  liberal  margin  of  profit  on  such  transactions. 

It  must  not  be  inferred  that  the  regulations  adopted  by  the  Federal 
Reserve  Board  concerning  commodity  loans  apply  only  to  cotton.  These 
regulations  apply  to  all  nonpcrishable  and  staple  commodities  in  all  parts 
of  the  country  and,  like  credit  facilities,  are  available  to  producers  in  all 
parts  of  the  country. 

146.     GREENBACKS  AND  THE  FEDERAL  RESERVE 
SYSTEM' 

By  a.  D.  WELTON 

At  the  meeting  between  the  Conference  of  Governors  of  the 
Federal  reserve  banks,  the  Executive  Committee  of  the  National 
Bank  Section,  and  the  Committee  on  Federal  Legislation  in  Washing- 
ton last  month,  the  representatives  of  the  American  Bankers'  Associa- 
tion proposed  that  the  greenbacks  be  retired  and  canceled.  A  joint 
committee  was  appointed  to  prepare  and  submit  a  plan  for  this  pur- 
pose. It  was  suggested  that  the  $150,000,000  of  gold  which  is  held 
as  a  reserve  against  the  greenbacks  be  increased  by  $200,000,000 
through  the  medium  of  a  bond  issue,  in  order  to  secure  funds  to  i)ay 
these  obligations  of  the  Government.  The  Federal  reserve  banks 
would  probably  have  to  be  designated  as  redemption  agencies,  and  it 
will  doubtless  also  be  necessary  to  make  silver  and  gold  certificates 
legal  tender  as  well  as  to  fix  a  date  after  which  greenbacks  cannot  be 
used  as  reserve  money. 

It  was  proposed  many  times  when  the  Federal  Reserve  Act  was 
in  process  of  formulation  that  provision  be  made  for  the  retirement  of 
the  greenbacks.  If  this  proposal  was  not  summarily  brushed  aside 
as  neither  desirable  nor  warranted,  action  was  halted  by  the  argument 
that  the  inclusion  of  the  proposal  in  the  general  plan  for  a  new  bank- 
ing system  would  excite  so  much  controversy  and  ajouse  so  much 
antagonism  that  matters  of  greater  importance  would  be  placed  in 
jeopardy  and  the  whole  bill  miglu  fail.     The  greenbacks  were  let  alone. 

It  was  impossible  to  foresee  what  the  monetary  condition  of  the 
country  would  be  two  years  after  the  bill  creating  the  Federal  reserve 

'  Adapted  from  J  otirmil  of  American  Hunkers'  Association,  VIII  (19 16),  662-63. 


300  PRINCIPLES  OF  MONEY  AND  BANKING 

system  became  a  law.  It  is  this  condition  that  makes  the  suggestion 
for  the  retirement  and  cancellation  of  the  greenbacks  logical  and  per- 
tinent. More  than  any  other  factor  in  the  currency  system  these 
promises  of  the  Government  to  pay  prevent  the  Reserve  Act  from 
bringing  to  realization  what  was  its  first  and  most  important  purpose, 
providing  an  elastic  currency.  All  the  currency  of  all  kinds  that  the 
country  had  before  the  Reserve  Act  went  into  operation  is  still  in 
existence. 

For  issues  of  Federal  reserve  notes  there  has  been  small  demand. 
The  amount  of  them  now  outstanding,  chargeable  as  a  net  liability  of 
the  reserve  banks,  is  inconsequential.  It  is  impossible  to  contract  the 
currency  below  the  fixed  element  in  it  when  the  flow  of  gold  is  toward 
this  country  and  when  business  does  not  demand  Federal  reserve 
notes.  The  currency  is,  therefore,  not  flexible.  It  does  not  expand 
or  contract  according  to  the  volume  of  business.  It  remains  prac- 
tically fixed  when  it  would  be  much  smaller  if  the  quantity  of  it  were 
measured  by  the  commercial  demand.  It  was  presumed  that  with 
the  natural  growth  of  the  nation's  commerce  it  would  grow  up  to  the 
fixed  elements  in  the  currency  and  the  Federal  reserve  notes  would 
then  provide  all  the  elasticity  needed.  The  influx  of  gold  in  conse- 
quence of  the  war  is  one  reason  for  failure  in  this  direction.  The 
greenbacks,  therefore,  are  water  in  the  stock  of  currency,  which  is 
inflated  in  consequence. 

If  the  Federal  Reserve  Act  is  not  speedily  amended  so  that  flexi- 
bility may  be  provided  and  the  necessary  contraction  in  the  currency 
may  take  place,  the  chief  purpose  of  the  Act,  to  provide  an  elastic 
currency,  will  have  been  defeated.  The  retirement  of  the  greenbacks 
seems  to  be  the  simplest  method  of  providing  the  necessary  contrac- 
tion. It  would  cause  no  disturbance.  If  progress  toward  a  sound 
and  scientific  currency  system  is  to  continue,  the  sooner  the  green- 
backs are  out  of  the  way  the  nearer  will  be  this  achievement.  Just 
at  present  the  continued  existence  of  this  form  of  currency  is  prevent- 
ing a  fair  test  of  the  adequacy  of  the  whole  Federal  reserve  system. 

147.    REDISCOUNTING  AND  EXPANSIBILITY  OF  DEPOSITS' 
By  E.  E.  agger 

Let  us  consider  the  provisions  made  in  the  new  law  for  insuring 
the  "elasticity"  of  bank  credit.  The  problem  here  is  chiefly  one  of 
maintaining  a  proper  relation  between  reserves  and  liabilities.    The 

'  Adapted  from  "The  Federal  Reserve  System,"  Political  Science  Quarterly, 
XXIX  (1914),  271-78. 


THE  FEDERAL  RESERVE  SYSTEM  301 

basic  units  of  the  system,  namely,  the  member  banks,  are,  within  the 
limits  prescribed  by  the  national  banking  law  with  respect  to  loans 
to  individuals,  etc.,  free  to  expand  deposits  until  their  reserves  fall 
to  the  prescribed  minimum.  As  the  deposits  in  the  federal  reserve 
banks  themselves  constitute  the  reser\-es  for  a  considerable  portion 
of  the  deposit  liabilities  of  member  banks,  the  reserve  requirements 
for  the  federal  reserve  banks  are  properly  more  exacting.  As  the  pur- 
pose of  prescribing  reserves  is  to  check  expansion,  the  banks  are  pro- 
hibited from  making  new  loans,  and  incidentally  from  paying  any 
dividends,  when  reserves  fall  below  the  prescribed  percentages.  Yet 
in  order  that  the  reserve  requirements  may  not  constitute  an  impass- 
able "dead  line"  irrespective  of  the  emergency,  the  Federal  Reserve 
Board  is  authorized  to  suspend  all  the  reserve  requirements  for  a 
period  of  thirty  days  and,  if  necessary,  to  renew  the  suspension  for 
periods  of  fifteen  days.  But  to  prevent  this  emergency  expedient 
from  resulting  in  turn  in  the  evil  of  inflation,  it  is  pro\'ided  that 
when  the  Federal  Reserve  Board  suspends  the  reser\-e  requirements  it 
must  levy  a  graduated  tax  on  the  amounts  by  which  the  reserve  may 
be  permitted  to  fall  below  the  specified  level,  and  the  reserve  banks 
must  then  add  such  tax  to  the  discount  rates  established  by  the 
Federal  Reserve  Board.  A  more  adjustable  check  on  expansion  that 
can  be  applied  before  reserves  drop  to  the  danger  point  is  found  in  the 
authority  vested  in  the  Federal  Reserve  Board  to  re\iew  and  deter- 
mine the  rates  of  discount  which  the  federal  reserve  banks  may  estab- 
lish. How  efficacious  this  authority  will  be  remains  to  be  seen. 
Much  will  depend  upon  the  extent  to  which  the  discount  rates  of  the 
federal  reserve  banks  can  be  made  to  control  the  general  market  rates 
in  their  several  districts. 

Consideration  should  now  be  given  to  the  plan  by  which  tlie  new 
system  makes  the  centralized  reserves  and  the  notes  of  the  reserve 
banks  available  to  the  member  banks.  First,  it  may  be  noted  that  the 
deposit  balances  in  the  reserve  banks  due  to  member  banks  are, 
within  the  limits  already  noted,  to  be  counted  as  reserves  by  the  mem- 
ber banks.  This  is  of  course  a  necessary  corollar\'  oj  centralized 
reserves.  These  deposits  may  be  checked  against  member  banks  or 
be  simply  drawn  down  in  reserve  notes  or  lawful  money.  The  impor- 
tant consideration  for  the  member  banks  is  therefore  the  maintenance 
of  an  adequate  balance  with  the  federal  reserve  bank. 

This  is  made  possible  by  provisions  for  rediscounting.  With  the 
indorsement  of  a  memlier  bank  the  federal  reserve  bank  may  discount 


302  PRINCIPLES  OF  MONEY  AND  BANKING 

for  such  member  bank  certain  notes,  drafts,  and  bills  of  exchange. 
On  the  whole,  therefore,  it  may  be  concluded  that  as  long  as  a  member 
bank  keeps  the  required  proportion  of  its  reserves  in  lawful  money  in 
its  own  vaults  the  question  of  obtaining  hand-to-hand  money  or  that 
of  strengthening  reserves  is  simply  one  of  having  on  hand  an  adequate 
supply  of  bills  acceptable  for  rediscounting. 

In  connection  with  rediscounting,  however,  one  important  ques- 
tion remains.  This  relates  to  the  provision  made  for  one  reserve  dis- 
trict to  get  the  advantage  of  possibly  reduntant  reserves  in  other 
districts.  Students  generally  agree  that  nothing  is  so  effective  in 
bringing  about  a  free  flow  of  funds  as  an  open  discount  market. 
With  an  open  market  under  a  system  of  centralized  reserves 
local  banks  need  turn  to  the  central  banks  only  when  the  credit 
on  the  basis  of  a  given  ratio  of  reserves  has  been  entirely  ab- 
sorbed. Each  bank  buys  or  sells  according  to  its  own  needs.  If 
the  paper  available  be  of  the  proper  character,  and  if  the  inter- 
banking  relations  are  such  as  to  inspire  the  necessary  confidence, 
this  free  flow  of  funds  may  not  only  characterize  the  country  as  a 
whole,  but  may  also  enter  as  an  important  possibility  in  international 
operations.  Understanding  the  advantages  of  an  open  market,  the 
framers  of  the  law  have  endeavored  to  provide  at  least  some  of  the 
facilities  necessary  to  its  creation.  Member  banks  are  permitted  to 
"accept"  on  commission  drafts  or  bills  of  exchange  growing  out  of 
exports  or  imports  having  not  more  than  six  months'  sight  to  run. 
The  amount  so  accepted,  however,  is  limited  to  half  the  bank's  paid-up 
capital  and  surplus.'  For  bills  with  strong  banks  as  the  acceptors 
there  ought  to  be  a  wide  demand.  Such  bills  ought  to  flow  wherever 
the  rate  of  discount  is  lowest.  To  facilitate  this  dispersion,  the  law 
permits  the  federal  reserve  banks  to  discount  these  acceptances  when 
they  have  the  indorsement  of  at  least  one  member  bank.  But  should 
it  be  impossible  to  build  up  an  open  market,  or  should  the  possibilities 
of  such  a  market  prove  at  any  time  inadequate,  there  is  the  provision 
that  the  Federal  Reserve  Board  may  permit,  and  on  vote  of  five  mem- 
bers may  compel,  the  reserve  banks  to  rediscount  for  each  other. 
Moreover,  the  Federal  Reserve  Board  fixes  the  rates  at  which  such 
rediscounts  are  made.  Thus  under  a  system  of  district  centralization 
the  effort  is  made  to  get  the  advantages  of  complete  centralization. 

'  For  regulations  of  the  Federal  Reser\^e  Board  governing  this  business,  see 
selection  No.  156. — Editor. 


THE  FEDERAL  RESERVE  SYSTEM  303 

148.    DISCOUNT  RATES  ESTABLISHED 

The  following  statement  was  issued  by  the  Governor  of  the  Federal 
Reserve  Board  on  November  14,  19 14,  shortly  after  the  inauguration 
of  the  system: 

Rates  of  rediscount  have  been  established  as  follows:  New  York  and 
Philadelphia,  5§  per  cent  for  bills  and  notes  having  a  maturity  of  not  over 
thirty  days,  and  6  per  cent  for  paper  with  a  longer  maturity;  Boston,  Cleve- 
land, Richmond,  Chicago,  and  St.  Louis,  6  per  cent  for  all  maturities; 
Atlanta,  Minneapolis,  Kansas  City,  Dallas,  and  San  Francisco,  6  per  cent 
for  bills  and  notes  having  a  maturity  of  not  more  than  thirty  days,  and 
6i  per  cent  for  those  having  a  longer  maturity. 

The  Board  took  this  action  in  accordance  with  the  provisions  of  the 
Federal  Reserve  Act  which  authorized  it  to  review  and  determine  rates  of 
discount  fixed  by  each  Federal  Reserve  Bank.  Each  of  the  banks  was 
requested  by  telegraph  to  suggest  a  rate  of  discount  for  opening,  and  all 
of  these  repUes  were  tabulated.  The  answers  showed  a  ver>'  decided  degree 
of  uniformity,  and  many  of  the  rates  have  been  confirmed  as  suggested,  the 
lowest  suggested  rate  being  5  per  cent  whUe  the  highest  was  7  per  cent. 

After  full  consideration  of  the  facts  in  the  situation,  the  Board  felt  it 
incumbent  to  adopt  a  moderate  and  conservative  policy  at  the  outset,  in 
view  of  the  fact  that  the  exact  conditions  to  which  the  banks  will  be 
subjected  in  operation  cannot  be  precisely  foretold.  It  was  felt  that 
the  adoption  of  rates  of  rediscount  which  would  adequately  safeguard 
the  resources  of  the  various  institutions  would  be  the  wisest  policy  at  the 
beginning,  in  view  of  the  disturbed  conditions  in  the  financial  world.  The 
Federal  Reserve  Banks  have  the  right,  with  the  approval  of  the  Board,  at 
any  time  to  change  the  rates;  and  the  present  rates  are,  therefore,  to  be 
regarded  as  provisional  and  subject  to  revision.  The  Board  expects  to  be 
governed  entirely  by  experience  as  the  new  banks  become  firmly  established 
and  accumulate  data  which  can  be  used  for  its  guidance  in  reaching  con- 
clusions. 


304 


PRINCIPLES  OF  MONEY  AND  BANKINC; 


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THE  FEDERAL  RESERVE  SVSTKM  305 

150.    REDISCOUNTS   BETWEEN    FEDERAL   RESERVE    BANKS 

The  following  statement  was  issued  by  the  Federal  Rcser\-c 
Board  on  March  10,  1915: 

In  view  of  the  possibility  of  an  early  demand  for  rediscounts  between 
Federal  Reserve  Banks,  the  Federal  Reserve  Board  today  fixed  a  rate  of 
rediscount  for  the  present  between  Federal  Reserve  Banks  of  3  J  per  cent 
for  paper  up  to  thirty  days  and  4  per  cent  for  paper  of  maturities  over  thirty 
days  and  up  to  ninety  days. 

All  appUcations  for  rediscounts  are  to  be  filed  with  the  Federal  Reserve 
Board,  the  Board  reserving  the  right  to  apportion  the  applications  for 
rediscount  among  other  Federal  Reserve  Banks. 

151.    THE  ADVANTAGES  OF  A  DISCOUNT  MARKET  TO 
BANKERS' 

By  FRANt  A.  VANDERLIP 

Among  other  things  it  will  be  the  function  of  the  twelve  regional 
banks  to  loan  to  member  banks  through  rediscounting  for  them. 
Not  sometimes,  but  always  and  under  all  circumstances,  we  are  told, 
the  member  banks  will  be  able  to  rediscount  at  the  federal  reserve 
bank.  A  banker  who  can  look  into  the  future  and  know  with 
absolute  certainty  that,  under  any  circumstances,  he  can  rediscount 
commercial  paper  in  his  portfolio  will  have  removed  from  his  life  a 
good  deal  of  fear. 

Let  us  see  what  it  means.  It  means  that  commercial  paper  will 
become  the  most  liquid  asset  in  the  bank's  portfolio.  According  to 
the  practice  of  American  banks,  a  loan  once  made  to  a  commercial 
borrower  must  remain  in  the  bank's  portfolio  until  the  loan  matures. 
The  exception  to  that  is  in  the  case  of  country  banks  which  may  redis- 
count to  a  limited  extent  with  their  city  correspondents;  but  the 
large  banks  cannot  rediscount.  Not  only  is  there  no  place  for  them 
to  go,  but  it  would  be  considered  an  exhibition  of  weakness.  Hence 
a  loan  made  to  a  commercial  borrower  by  a  large  bank  is  a  comjdete 
absorption  of  that  portion  of  the  bank's  loanable  funds  until  the 
maturity  of  the  loan.  If  the  banks  in  the  future  under  this  measure 
can  always  borrow,  then  the  t>i)e  of  commercial  pajier  that  the  bill 
permits  as  collateral  for  such  loans  becomes  the  most  li(|uid  asset  that 
the  bank  could  have. 

'  Adapted  from  "Rediscount  Function  of  Federal  Reserve  Banks,"  Procctdings 
of  the  American  Academy  of  Political  aiid  Social  Science.  I\'  (loi  5-i4~>.  140-4-- 


3o6  PRINCIPLES  OF  MONEY  AND  BANKING 

Another  result  will,  however,  come  from  this.  At  the  present 
time,  as  I  have  said,  a  loan  must  be  held  until  maturity.  One  of  the 
great  needs  of  the  country  is  a  discount  market,  a  market  in  which 
we  can  buy  and  sell  commercial  j)aper  that  has  been  endorsed  by 
banks,  so  that  the  credit  of  the  original  maker  is  not  taken  much  into 
consideration.  We  need  to  create  a  situation  so  that  banks  will  buy 
and  sell  commercial  paper  in  that  market,  so  that  they  may  buy  one 
day  and  sell  perhaps  another  day  soon  after,  as  we  now  make  call 
loans  one  day  and  possibly  call  them  the  next  day  if  our  position 
changes.  The  existence  of  a  discount  market  of  that  character  would, 
I  believe,  be  of  the  utmost  importance  to  commerce  as  well  as  to  the 
banks  of  the  country.  It  is  impossible  to  have  such  a  discount  market 
here  without  a  central  bank  fully  qualified  to  meet  the  responsibility 
that  a  central  bank  should  bear,'  that  is  to  say,  in  the  last  resort  to 
rediscount  commercial  paper.  We  are  willing  to  invest  our  funds  in 
commercial  paper  under  that  condition.  If  we  know  that  when  we 
need  partially  to  liquidate  our  portfolio,  and  the  market  will  not 
repurchase  commercial  paper,  we  can  go  to  the  central  bank  and  have 
that  paper  rediscounted,  we  can  afford  to  buy  it.  It  is  the  ability  to 
go  ultimately  to  the  central  bank  for  discounts  that  will  create  the 
discount  market. 

The  advantage  of  a  discount  market  will  be  that  we  shall  no 
longer  have  to  keep  a  great  amount  of  funds  in  call  loans  based  on 
stock-exchange  collateral.  With  a  minimum  reserve  fixed  by  law,  all 
banks  naturally  run  pretty  close  to  that  minimum.  This  means  that 
they  must  have  some  part  of  their  loanable  funds  in  a  form  in  which 
they  can  readily  convert  them  into  cash;  that  is  what  we  call  the  line 
of  a  secondary  reserve.  Today  we  are  forced  to  carry  this  line  of 
secondary  reserve  in  loans  upon  stock-exchange  collateral  because  that 
is  the  only  type  of  loan  which  is  immediately  convertible  into  cash. 
That  type  of  loan  is  all  right  in  ordinary  times,  because  it  is  immedi- 
ately convertible  into  cash.  It  is,  however,  exactly  the  opposite  of 
the  ideal  bank  loan  in  that  it  has  no  self -liquidating  quahty.  The  only 
way  the  loan  can  be  paid  is  by  shifting  it,  either  directly  or  through 
the  sale  of  the  collateral.  There  is  no  self-liquidating  quahty  about 
it,  and  while  it  is  satisfactory  in  ordinary  times,  it  is  full  of  the  gravest 
danger  at  a  time  when  it  becomes  impossible  to  shift  it.     If  we  redis- 

'  This  was  written  two  months  before  the  passage  of  the  Federal  Reserve  Act, 
when  there  was  still  controversy  over  the  central  bank. — Editor. 


THE  FEDER.\L  RESER\'E  SYSTEM  307 

count  commercial  paper  in  the  way  outlined,  we  shall  no  longer  feel 
under  the  necessity  of  carr\ing  large  amounts  of  stock  loans;  there 
would  be  liberated  for  commercial  uses  here  in  New  York  several 
hundred  millions  of  dollars.  Money  now  devoted  to  stock  loans 
belongs  to  the  loanable  funds  of  both  New  York  and  out-of-town 
banks,  for  many  out-of-town  banks  come  into  our  call  loan  market, 
their  loans  reaching  two  or  three  hundred  millions. 

A  discount  market  will  at  times  attract  foreign  capital,  because 
it  will  create  paper  of  a  form  suitable  for  the  use  of  foreign  banks. 
At  present  there  is  practically  no  loaning  of  foreign  capital  on  Ameri- 
can commercial  paper. 

That  it  is  very  desirable  to  create  a  central  bank  or  banks  that  will 
have  power  always  to  loan  to  member  banks  is  ob\ious.  If  the 
measure  now  before  Congress  will  accomj^lish  it,  it  will  bring  lower 
commercial  rates  for  the  whole  business  community  of  the  United 
States.  It  will  accomplish  a  leveling  process;  rates  will  go  up  some- 
what in  the  cities  and  down  in  the  country  districts;  that  is  to  say, 
there  will  no  longer  be  the  funds  devoted  to  the  very  low-rate  stock- 
exchange  loans  that  we  now  have,  and  those  funds  going  into  com- 
mercial borrowing  will  tend  to  lower  the  general  level  of  the  commercial 
rate.  It  will  become  easier  to  transfer  funds  from  one  community 
where  there  is  an  overflow  of  loanable  funds  to  another  where  there  is 
stram.  All  these  results  would  be  accomplished,  not  because  banks 
would  continuously  go  to  these  central  banks  and  borrow  money,  but 
because  they  would  have  a  place  to  which  they  could  go  as  a  last 
resort.  They  would  not  want  to  go  there  normally;  they  would  not 
expect  to  borrow  money  at  a  low  rate  from  the  central  banks  and 
reloan  it  at  a  higher  rate;  but  the  ability,  in  the  last  resort,  to  go  there 
would  give  a  liquid  character  to  commercial  loans,  and  that  liquid 
character  would  bring  the  improvements  that  I  have  outlined. 

152.    THE  NATURE  AND  ADVANTAGES  OF  BANK  ACCEPT- 
ANCES' 

A  bank  acceptance  consists  of  the  extension  of  the  bank's  credit  to 
a  customer  by  which  the  bank  permits  the  use  of  its  own  credit  by 
its  client  for  a  consideration,  such  credit  being  cither  secured  or 
unsecured,    depending   entirely    upon    the    business   character   and 

'  Adapted  from  a  pamphlet  on  Bank  Accepiatues,  issued  by  the  Guaranty 
Trust  Company,  of  New  York.     (Copyright,  1915.) 


3o8  PRINCIPLES  OF  MONEY  AND  BANKING 

financial  responsibility  of  the  applicant.    A  bank  acceptance  may  be 
created  as  follows: 

A  B  &  Co.  in  New  York  buy  of  C  D  &  Co.  in  Galveston  a  quantity  of 
merchandise.  In  order  to  reimburse  C  D  &  Co.  in  a  convenient  manner, 
A  B  &  Co.  arrange  with  their  bank  to  accept  on  presentation  the  drafts 
of  C  D  &  Co.,  with  documents  for  the  merchandise  attached.  C  D  &  Co. 
thereupon,  under  the  terms  of  the  sale,  draw  on  the  bank,  which  accepts  the 
drafts,  taking  the  documents.  The  draft  thus  becomes  a  hank  acceptance. 
Then  ensues  a  credit  operation  between  the  bank  and  A  B  &  Co.  as  to  what 
disposition  is  to  be  made  of  the  documents  and  under  what  terms  A  B  &  Co. 
shall  receive  the  documents  from  the  bank.  (It  must  be  borne  in  mind 
that  the  bank  is  primarily  liable  upon  its  acceptance  and  the  security  for 
its  acceptance  is  the  merchandise  for  which  it  so  acted.)  This  is  usually 
easily  adjusted.  A  B  &  Co.  undertake  by  some  means  or  other  to  provide 
the  bank  with  funds  prior  to  maturity  of  the  draft  in  order  that  the  accept- 
ance for  which  the  bank  stands  responsible,  at  the  request  of  A  B  &  Co., 
may  be  met. 

There  are  certain  distinct  advantages  both  to  banks  and  their 
customers  to  be  derived  from  the  creation  of  acceptances.  These 
may  be  summarized  as  follows: 

1.  Bank  customers  can  ordinarily  borrow  by  this  means  more  cheaply 
than  by  their  straight  note. 

2.  The  use  of  acceptances  makes  it  possible  for  banks  and  trust  com- 
panies to  properly  and  conveniently  finance  legitimate  business  transactions 
of  their  customers  without  using  any  of  the  bank's  funds  or  the  use  of  any 
additional  fimds. 

3.  Banks  having  surplus  money  which  cannot  be  readily  employed  at 
the  time  can  invest  it  in  prime  acceptances,  which  can  either  be  held  until 
maturity  or  sold  in  the  open  market,  should  such  action  be  found  necessary. 

4.  Acceptances  of  well-known  institutions  will  more  and  more  be  sought 
as  short-term  investments  and  will  be  especially  valuable  for  such  a  purpose, 
principally  on  account  of  their  ready  marketability. 

5.  Banks  and  trust  companies  can  accept  for  a  commission  the  paper 
issued  by  their  best  customers  and  sell  it  in  the  open  market,  thus  adding 
to  their  business  another  feature  which  can  be  a  source  of  definite  profit. 

6.  The  presence  of  the  name  of  the  accepting  bank  makes  prime  to  the 
extent  of  the  credit  of  the  accepting  bank  the  paper  on  which  it  appears. 
This  at  once  eliminates  the  necessity  and  bother  of  checking  the  drawer  or 
several  endorsers  upon  paper,  as  the  primary  responsibility  rests  with  the 
accepting  bank.  If  this  is  in  good  credit  all  other  names  on  the  paper 
become  proportionately  of  less  interest. 

7.  With  the  development  of  the  use  of  bank  acceptances,  the  knowledge 
of  the  relations  that  the  borrower  has  with  other  institutions,  which  the 
credit-extending  banks  will  thus  have,  will  create  a  condition  of  almost 


THE  FEDERAL  R1;S1:R\J-:  SVSTli.M 


309 


automatic  registration  of  paper,  thus  more  than  ever  i)rolccling  the  banks 
as  well  as  the  borrowers  from  the  evil  results  of  the  overextension  of  credit. 


153.    PRO  VISIONS  GOVERNING  BANKERS'  ACCEPT.\NCES' 

I.      DKFIMTION 

In  this  regulation  the  term  "acceptance"  is  dcfmcd  as  a  draft  or  bill 
of  exchange  drawn  to  order,  having  a  definite  maturity,  and  payable  in 

'  Federal  Reserve  Board  Circular  No.iS,  September  7,  1915,  conlaiiiing  amend- 
ments to  the  act  api)rovcd  March  3,  1915. 


3IO  PRINCII'LKS  OF  iMONKY  ANh  HANKING 

dollars,  in  the  United  States,  the  obligation  to  pay  which  has  been  accepted 
by  an  acknowledgment  written  or  stamped  and  signed  across  the  face  of 
the  instrument  by  the  party  on  whom  it  is  drawn;  such  agreement  to  be 
to  the  effect  that  the  acceptor  will  pay  at  maturity  according  to  the  tenor 
of  such  draft  or  bill  without  qualifying  conditions. 

n.      STATUTORY   REQUIREMENTS   UNDER   SECTIONS    I3    AND    I4 

Section  13  of  the  Federal  Reserve  Act  as  amended  provides  that — 

(a)  Any  Federal  Reserve  Bank  may  discount  acceptances — 

(i)  Which  are  based  on  the  importation  or  exportation  of  goods; 

(2)  Which  have  a  maturity  at  time  of  discount  of  not  more  than 
three  months;  and 

(3)  Which  are  indorsed  by  at  least  one  member  bank. 

(b)  The  amount  of  acceptances  so  discounted  shall  at  no  time  exceed 
one-half  the  paid-up  capital  stock  and  surplus  of  the  bank  for  which 
the  rediscounts  are  made  (except  by  authority  of  the  Federal 
Reserve  Board  and  of  such  general  regulations  as  said  Board  may 
prescribe,  but  not  to  exceed  the  capital  stock  and  surplus  of  such 
bank) . 

(c)  The  aggregate  of  notes  and  bills  bearing  the  signature  or  indorsement 
of  any  one  person,  company,  firm,  or  corporation  rediscounted  for 
any  one  bank  shall  at  no  time  exceed  10  per  centum  of  the  unim- 
paired capital  and  surplus  of  said  bank;  but  this  restriction  shall 
not  apply  to  the  discount  of  bills  of  exchange  drawn  in  good  faith 
against  actually  existing  values. 

Section  14  of  the  Federal  Reserve  Act  permits  Federal  Reserve  Banks, 
under  regulations  to  be  prescribed  by  the  Federal  Reserve  Board,  to  pur- 
chase and  sell  in  the  open  market  bankers'  acceptances  with  or  without  the 
indorsement  of  a  member  bank. 

III.      RULING 

The  Federal  Reserve  Board,  exercising  its  power  of  regulation  with 
reference  to  Paragraph  II  (b)  hereof,  rules  as  follows: 

Any  Federal  Reserve  Bank  shall  be  permitted  to  discount  for  any 
member  bank  "bankers'  acceptances"  as  hereinafter  defined  up  to  an 
amount  not  to  exceed  the  capital  stock  and  surplus  of  the  bank  for  which 
the  rediscounts  are  made. 

IV.      ELIGIBILITY 

The  Federal  Reserve  Board  has  determined  that,  until  further  order, 
to  be  eligible  for  discount  under  section  13,  by  Federal  Reserve  Banks,  at 
the  rates  to  be  established  for  bankers'  acceptances: 

(c)  Acceptances  must  comply  with  the  provisions  of  Paragraph  II 
(a),  (b),  (c)  hereof. 


THE  FEDERAL  RESERVE  SYSTEM  311 

(b)  Acceptances  must  have  been  made  by  a  member  bank,  non-member 
bank,  trust  company,  or  by  some  private  banking  firm,  person,  company, 
or  corporation  engaged  in  the  business  of  accepting  or  discounting.  Such 
acceptances  will  hereafter  be  referred  to  as  "bankers,"  acceptances. 

(c)  A  banker's  (foreign)  acceptance  must  be  drawn  by  a  purchaser  or 
seller  or  other  person,  firm,  company,  or  corporation  directly  connected 
with  the  importation  or  exportation  of  the  goods  involved  in  the  transac- 
tion in  which  the  acceptance  originated,  or  by  a  "banker."  The  bill  must 
not  be  renewed  after  Ihe  goods  have  been  surrendered  to  the  purchaser  or 
consignee,  except  for  such  reasonable  period  as  may  have  been  agreed  upon 
at  the  time  of  the  opening  of  the  credit  as  a  condition  incidental  to  the 
importation  or  exportation  involved,  provided  that  the  bill  must  not  con- 
tain or  be  subject  to  any  condition  whereby  the  holder  thereof  is  obligated 
to  renew  the  same  at  maturity. 

(d)  A  banker's  (foreign)  acceptance  must  bear  on  its  face  or  be  accom- 
panied by  evidence  in  form  satisfactory  to  a  Federal  Reserve  Bank  that 
it  originated  in,  or  is  based  upon,  a  transaction  or  transactions  involving  the 
importation  or  exportation  of  goods.  Such  evidence  may  consist  of  a 
certificate  on  or  accompanying  the  acceptance  to  the  following  effect: 

"This  acceptance  is  based  upon  a  transaction  involving  the  importa- 
tion or  exportation  of  goods.     Reference  Ko.  .    Name  of  acceptor 

(e)  Bankers'  acceptances,  other  than  those  of  member  banks,  shall  be 
eligible  only  after  the  acceptors  shall  have  agreed  in  writing  to  furnish  to 
the  Federal  Reserve  Banks  of  their  respective  districts,  upon  request, 
information  concerning  the  nature  of  the  transactions  against  which  accept- 
ances (certified  or  bearing  evidence  under  IV  (d)  hereof)  have  been  made. 

(/)  A  bill  of  exchange  accepted  by  a  "banker"  may  be  considered  as 
drawn  in  good  faith  against  "actually  existing  values,"  under  II  (c)  hereof, 
when  the  acceptor  is  secured  by  a  lien  on  or  by  transfer  of  title  to  the  goods 
to  be  transported  or  by  other  adequate  security. 

(g)  Except  in  so  far  as  they  may  be  drawn  in  good  faith  against  actually 
existing  values,  as  under  (/),  the  bills  of  any  one  drawer  drawn  on  and 
accepted  by  any  firm,  person,  company,  or  corporation  (other  than  a  bank 
or  trust  company)  engaged  in  the  business  of  discounting  and  accepting, 
and  discounted  by  a  Federal  Reserve  Bank,  shall  at  no  time  exceed  in  the 
aggregate  a  sum  equal  to  a  definite  percentage  of  the  paiil-in  capital  of  such 
Federal  Reserve  Bank;  such  percentage  to  be  fixed  from  time  to  time  by 
the  Federal  Reserve  Board. 

(//)  The  aggregate  of  acceptances  of  any  firm,  person,  company,  or 
corporation  (other  than  a  bank  or  trust  comj)any)  engaged  in  the  businv.-ss 
of  discounting  or  accepting,  discounted  or  purchased  by  a  Federal  Reserve 
Bank,  shall  at  no  time  exceed  a  sum  equal  to  a  definite  percentage  of  the 


312  PRINCIPLES  OF  MONEY  AND  BANKING 

paid-in  capital  of  such  Federal  Reserve  Bank;  such  percentage  to  be  fixed 
from  time  to  time  by  the  Federal  Reserve  Board. 

To  be  eligible  for  purchase  by  Federal  Reserve  Banks  under  section  14, 
bankers'  acceptances  must  comply  with  all  requirements  and  be  subject  to 
all  limitations  hereinbefore  stated,  except  that  they  need  not  be  indorsed 
by  a  member  bank:  Provided,  however,  That  no  Federal  Reserve  Bank  shall 
purchase  the  acceptance  of  a  "banker"  other  than  a  member  bank  which 
docs  not  bear  the  indorsement  of  a  member  bank,  unless  a  Federal  Reserve 
Bank  has  first  secured  a  satisfactory  statement  of  the  financial  condition 
of  the  acceptor  in  form  to  be  approved  by  the  Federal  Reserve  Board. 

v.      POLICY  AS  TO  PURCHASES 

While  it  would  appear  impracticable  to  fix  a  maximum  sum  or  percent- 
age up  to  which  Federal  Reserve  Banks  may  invest  in  bankers'  acceptances, 
both  under  section  13  and  section  14,  it  will  be  necessary  to  watch  carefully 
the  aggregate  amount  to  be  held  from  time  to  time.  In  framing  their 
pohcy  with  respect  to  transactions  in  acceptances.  Federal  Reserve  Banks 
will  have  to  consider,  not  only  the  local  demands  to  be  expected  from  their 
own  members,  but  also  requirements  to  be  met  in  other  districts.  The  plan 
to  be  followed  must  in  each  case  adapt  itself  to  the  constantly  varying  needs 
of  the  country. 

VI.      ACCEPTANCE  BY  MEMBER  BANKS 

Any  member  bank  may  accept  drafts  or  bills  of  exchange  drawn  upon 
it,  having  not  more  than  six  months'  sight  to  run  and  growing  out  of  trans- 
actions involving  the  importation  or  exportation  of  goods  up  to  an  amount 
not  exceeding  the  capital  and  surplus  of  such  bank,  provided  that — 

1.  Every  such  bank  shall  possess  an  unimpaired  surplus  of  not  less  than 
20  per  cent  of  its  paid-in  capital. 

2.  Every  such  bank  shall  file  formal  application  with  the  Federal 
Reserve  Bank  of  its  district,  which  shall  report  to  the  Federal  Reserve 
Board  upon  the  standing  of  such  applicant,  stating  also  whether  the  business 
and  banking  conditions  prevailing  in  the  district  warrant  the  granting  of 
such  applications  in  said  district. 

3.  Every  such  application  shall  first  have  been  approved  by  the  Federal 
Reserve  Board. 

Approval  of  any  such  application  may  be  rescinded,  and  modifications 
of  this  regulation  may  be  made,  by  the  Federal  Reserve  Board  upon  notice 
of  90  days  to  the  bank  or  banks  thereby  affected. 

154.    DOMESTIC  ACCEPTANCES  PROVIDED  FOR' 

The  appended  regulation  is  intended  to  cover  the  purchase  in  the 
open  market,  not  only  of  bankers'  acceptances  based  on  the  importa- 

'  Adapted  from  Federal  Reserve  Board  Circular  No.  ig,  November  29,  1915. 
Paragraph  numbering  has  been  changed  in  attempting  to  avoid  duplications  in  Cir- 
culars Nos.  18  and  ig.    See  selection  No.  153. — Editor. 


THE  FEDER.\L  RESERVE  SYSTEM  313 

tion  or  exportation  of  goods,  heretofore  covered  by  Regulation  R, 
but  also  the  purchase  of  certain  domestic  acceptances  authorized  by 
certain  State  laws. 

The  Federal  Reserve  Board  has  determined  that  bankers'  domestic 
acceptances,  as  defined  and  restricted  in  the  appended  regulation,  are 
a  very  useful  type  of  paper,  and  tlie  Board  has  not  felt  justified,  there- 
fore, when  admitting  State  banks  and  trust  companies  into  the  Federal 
Reserve  System,  in  stipulating  that  such  domestic  acceptances  should 
not  be  continued  under  reasonable  limitations  as  a  part  of  their 
business. 

Inasmuch  as  the  making  of  these  domestic  acceptances  has  been 
recognized  by  the  Board  as  the  exercise  of  a  legitimate  banking  func- 
tion when  authorized  by  law,  it  was  thought  that  they  are  of  the  char- 
acter to  make  desirable  investments  for  Federal  Reserve  Banks.  The 
Board  has,  therefore,  issued  the  appended  regulation,  not  only 
embodying  the  authority  given  in  Regulation  R,  series  of  19 15,  to 
purchase  bankers'  acceptances  based  on  the  importation  or  exporta- 
tion of  goods,  but  also  authorizing  the  purchase  of  bankers'  domestic 
acceptances  within  the  limits  prescribed  in  the  appended  regulations. 

1.  A  banker's  domestic  acceptance  must  be  based  on  a  transaction 
covering  the  shipment  of  goods,  such  transaction  to  be  evidenced  at  the  time 
of  acceptance  by  accompanying  shipping  documents,  or  must  be  secured  by 
a  warehouse  receipt  covering  readily  marketable  staples  and  issued  by  a 
warehouse  independent  of  the  borrower,  or  by  the  pledge  of  goods  actually 
sold. 

2.  A  banker's  domestic  acceptance  must  bear  on  its  face  or  be  accom- 
panied by  evidence  in  form  satisfactory  to  the  Federal  Reserve  Bank  that 
it  is  based  on  a  transaction  or  is  secured  by  a  receipt  or  pknige.  Such 
evidence  may  consist  of  a  certificate  in  general  form  similar  to  that 
suggested  in  (d)  Circular  No.  18,  governing  foreign  acceptances.' 

3.  Provision  (e)  in  Circular  No.  18  is  also  made  applicable  to  domestic 
acceptances. 

4.  The  following  provisions  supersede  (g)  and  (//)  in  Circular  No.  iS: 
a)  The  aggregate  of  bills,  domestic  and  foreign,  of  any  one  drawer, 

drawn  on  and  accepted  by  any  bank  or  trust  company  and  purchased  or 
discounted  by  a  Federal  Reserve  Bank,  shall  at  no  time  exceed  10  per  cent 
of  the  unimpaired  capital  and  surplus  of  such  bank  or  trust  company,  but 
this  restriction  shall  not  apply  to  the  purchase  or  discount  of  bills  drawn  in 
good  faith  against  actually  existing  values;  that  is,  bills  the  acceptor  of 
which  is  secured  by  a  hen  on  or  by  a  transfer  of  title  to  the  goods  to  be 
transported,  or  by  other  adequate  security,  such  as  a  warehouse  receipt, 
or  the  pledge  of  goods  actually  sold. 

'  For  tlie  provisions  of  Circular  No.  18,  see  selection  No.  153. — Editor. 


314  PRINCIPLES  OF  MONEY  ANIJ  BANKING 

b)  The  aggregate  of  bills,  domestic  and  foreign,  of  any  one  drawer, 
drawn  on  and  accepted  by  any  firm,  person,  company,  or  corporation  (other 
than  a  bank  or  trust  company)  engaged  in  the  business  of  discounting  or 
accepting,  and  purchased  or  discounted  by  a  Federal  Reserve  Bank,  shall 
at  no  time  exceed  a  sum  equal  to  a  definite  percentage  of  the  paid-in  capital 
of  such  Federal  Reserve  Bank,  such  percentage  to  be  fixed  from  time  to 
time  by  the  Federal  Reserve  Board;  but  this  restriction  shall  not  apply 
to  the  purchase  or  discount  of  bills  drawn  in  good  faith  against  actually 
existing  values;  that  is,  bills  the  acceptor  of  which  is  secured  by  a  lien  on 
or  by  a  transfer  of  title  to  the  goods  to  be  transported  or  by  other  adequate 
security,  such  as  a  warehouse  receipt,  or  the  pledge  of  goods  actually  sold. 

c)  The  aggregate  of  bankers'  acceptances,  domestic  and  foreign,  made 
by  any  one  firm,  person,  company,  or  corporation  (other  than  a  bank  or 
trust  company)  engaged  in  the  business  of  discounting  or  accepting,  pur- 
chased or  discounted  by  a  Federal  Reserve  Bank,  shall  at  no  time  exceed  a 
sum  equal  to  a  definite  percentage  of  the  paid-in  capital  of  such  Federal 
Reserve  Bank;  such  percentage  to  be  fixed  from  time  to  time  by  the  Federal 
Reserve  Board. 

No  Federal  Reserve  Bank  shall  purchase  a  domestic  or  foreign  accept- 
ance of  a  "banker"  other  than  a  member  bank  which  does  not  bear  the 
indorsement  of  a  member  bank,  unless  there  is  furnished  a  satisfactory  state- 
ment of  the  financial  condition  of  the  acceptor  in  form  to  be  approved  by 
the  Federal  Reserve  Board. 

POLICY  AS  TO  PURCHASES 

Federal  Reserve  Banks  should  bear  in  mind  that  preference  should  be 
given  wherever  possible  to  acceptances  indorsed  by  a  member  bank,  dis- 
counted under  section  13,  not  only  because  of  the  additional  protection  that 
such  indorsement  affords,  but  also  because  of  the  reason  that  acceptances 
discounted  under  section  13  may  be  used  as  collateral  security  for  the  issue 
of  Federal  Reserve  notes. 

155.    FEDERAL  RESERVE  BANKS  AND  THE  FOREIGN 
EXCHANGES' 

By  E.  E.  agger 

Important  provisions  are  to  be  noted  in  connection  with  the 
foreign  exchanges  and  the  international  movements  of  gold.  Most  of 
the  foreign  trade  of  the  United  States  has  heretofore  been  financed 
by  foreign  bankers.  The  new  system  permits  the  home  institutions 
to  enter  the  field  for  this  business.     Member  banks  are  allowed 

'Adapted  from  "The  Federal  Reserve  System,"  Political  Scietice  Quarterly, 
XXIX  (1914),  279-Si. 


THE  FEDERAL  RESERVE  SYSTEM  315 

within  certain  limits  to  accept  on  commission  drafts  and  bills  of 
exchange  growing  out  of  exports  and  imports,  and  these  may  be  sold 
in  the  open  market  or  ultimately  rediscounted  at  the  federal  reserve 
banks.'  National  banks  with  a  capital  and  surplus  of  Si, 000,000  or 
more  may,  with  the  permission  of  the  Federal  Reserve  Board,  estab- 
lish branches  abroad.  Similarly  the  reserve  banks,  when  duly 
authorized,  may  open  accounts  in  foreign  countries  and  may  establish 
branches  for  purchasing,  selling,  and  collecting  bills  of  exchange  bear- 
ing at  least  two  names  and  maturing  within  ninety  days.  But  the 
extent  to  which  American  bankers  will  be  able  to  supplant  the  foreigner 
will  depend,  of  course,  largely  upon  the  acceptability  of  bills  drawn  in 
dollars.  This  will  depend,  among  other  things,  upon  the  market  rate 
of  discount  in  the  United  States  in  competition  with  the  rates  abroad. 
If  the  new  system  successfully  establishes  American  credit  in  the 
world  markets,  a  large  part  of  the  tribute  that  American  commerce 
now  pays  to  foreign  bankers  will  stay  at  home. 

The  provisions  bearing  on  the  foreign  exchanges  and  gold  move- 
ments are  of  special  interest.  In  addition  to  the  dealings  with  their 
member  banks,  the  reserve  banks  are  permitted  to  purchase  and  sell 
in  the  open  market,  at  home  and  abroad,  cable  transfers  of  funds, 
bankers'  acceptances,  and  bills  of  exchange  of  the  kind  that  are 
eligible  for  rediscount,  with  or  without  the  indorsements  of  a  member 
bank.  Furthermore,  they  may  deal  in  gold  coin  and  bullion,  at  home 
and  abroad,  may  make  loans  thereon,  may  exchange  federal  reserve 
notes  for  gold  in  bullion  and  in  coin,  or  for  gold  certificates,  and  they 
may  contract  for  loans  of  gold.  Finally,  under  rules  prescribed  by 
the  Federal  Reserve  Board,  they  may  buy  and  sell,  at  home  and 
abroad.  United  States  bonds,  and  notes,  bills,  bonds,  revenue  war- 
rants, etc.,  of  the  stated  and  minor  political  divisions. 

The  significance  of  these  provisions  can  hardly  be  overestimated. 
Taken  together,  they  mean  that  in  the  foreign  exchange  market  the 
reserve  banks  will  not  only  become  competitors  of  existing  banks  but 
also  that  they  are  likely  to  become  the  controlling  factors  in  that 
market.  In  normal  times,  owing  to  their  extensive  resources  and 
wide  powers,  they  will  markedly  influence  the  general  drift  of  the 
exchanges,  while  in  times  of  strain  they  ought  to  be  in  position  to 
render  most  helpful  aid.  Their  buying  of  bills  in  the  open  market 
will  enable  them  to  support  the  demand  side  when  rates  are  low,  and 

'  Subsequent  rulings  of  the  Federal  Reserve  Board  have  greatly  strengthened 
the  acceptance  feature^  of  the  law.     See  selections  Nos.  153  and  154. — Editor. 


310  PRINCIPLES  OF  MONEY  AND  BANKING 

will  at  the  same  time  enable  them  to  throw  exchanges  on  the  market 
when  rates  are  high.  European  ex|:)erience  has  shown  this  to  be  a 
most  useful  expedient  in  checking  unnecessary  gold  movements. 
Moreover,  the  full  authority  granted  to  the  reserve  banks  to  deal  in, 
to  borrow,  or  to  make  loans  against  gold  at  home  and  abroad  and  to 
buy  and  sell  governmental  securities,  secures  the  possibility  of  creating 
credits  that  can  be  used  either  as  an  offset  for  debts,  the  payment  of 
which  would  otherwise  necessitate  gold  exports,  or  as  a  means  of 
obtaining  gold  to  strengthen  reserves  at  home.  Furthermore,  through 
the  final  control  of  discount  rates,  if  that  control  can  in  practice  be 
made  effective,  the  Federal  Reserve  Board  acting  through  the  reserve 
banks  may  check  the  outward  flow  of  gold.  If  the  nation's  credit 
position  is  strong  enough,  it  may  even  attract  gold  to  the  home  market 
from  abroad.  As  final  guarantee  to  the  world  of  the  solidarity  of  the 
whole  system,  the  gold  standard  is  reafl&rmed  and  the  Secretary  of  the 
Treasury  is  authorized  to  purchase  gold  if  necessary  with  one-year 
3  per  cent  notes  or  to  borrow  it  on  the  security  of  United  States  bonds. 

156.    OPEN-MARKET  OPERATIONS* 

There  remain  still  to  be  dealt  with  under  "Open-Market  Opera- 
tions" the  purchase  and  sale  of  "cable  transfers"  and  bills  of  exchange, 
both  domestic  and  foreign,  of  the  kinds  and  maturities  by  this  Act 
made  eligible  for  rediscount,  and  bankers'  acceptances  payable  in 
foreign  countries  and  in  foreign  currencies.  The  present  circular  and 
regulation  is  intended  to  cover  these  items.  The  Board  wishes  par- 
ticularly to  call  attention  to  the  purpose  of  the  open-market  section 
of  the  Federal  Reserve  Act.  It  enables  the  Federal  Reserv^e  Banks 
to  exert  a  steadying  influence  upon  prevailing  rates  of  interest  by  the 
use  of  their  purchasing  power  whenever  conditions  make  such  influence 
desirable,  and  when,  owing  to  the  lack  of  appHcations  for  rediscounts, 
they  are  unable  to  influence  rates  through  the  latter  means.  It  also 
affords  to  the  Federal  Reserve  Banks  the  opportunity  of  purchasing 
in  the  open  market  paper  with  a  view  to  providing  for  their  expenses 
and  dividends.  The  Board  is  of  the  opinion  that  the  Federal  Reserve 
Banks  should,  when  occasion  warrants,  stand  ready  to  engage  in  open- 
market  transactions,  as  buyers  or  sellers,  to  the  extent  that  it  is  neces- 
sary to  carry  out  the  purposes  of  the  Act. 

'  Adapted  from  Federal  Reserve  Board  Circular  A'o.  20,  December  4,  1915. 


THE  FEDERAL  RESERVE  SYSTEM  317 

General  Open-Market  Operation 
i.  definition 
Open-market  operations,  as  contemplated  under  the  Federal  Reserve 
Act,  are  all  those  transactions  authorized  by  section  14  of  the  Act  which 
involve  dealings  with  persons  or  institutions — whether  or  not  members  of 
the  Federal  Reserve  System — and  which  do  not  require  the  indorsement 
of  a  member  bank. 

n.      CABLE  TRANSFERS  AND  FOREIGN  BILLS  OF  EXCHANGE 

In  order  to  carry  on  open-market  transactions  in  cable  transfers  and 
foreign  bills  of  exchange  (including  foreign  bankers'  acceptances) — that  is, 
payments  to  be  made  in,  or  bills  payable  in,  foreign  countries — it  will  be 
necessary  for  Federal  Reserve  Banks  to  open  accounts  with  correspondents 
or  establish  agencies  in  foreign  countries.  Such  bills  of  exchange  and 
foreign  acceptances  must  comply  with  the  applicable  requirements  of  sec- 
tions 13  and  14.  As  the  law  prescribes  that  these  connections  are  to  be 
established  only  with  the  consent  of  the  Federal  Reserve  Board,  Federal 
Reserve  Banks  will  be  required  to  communicate  with  the  Federal  Reserve 
Board  whenever  they  are  ready  to  enter  these  foreign  fields. 

The  Federal  Reserve  Board  realizes  that  in  dealing  in  foreign  exchange 
the  Federal  Reserve  Banks  must  necessarily  have  wide  discretion  in  deter- 
mining the  rates  at  which  they  will  buy  or  sell.  It  is  not  necessary  that  the 
bills  shall  have  been  actually  accepted  at  the  time  of  purchase.  The  Federal 
Reserve  Board,  however,  will  require  that  unaccepted  "long  bills,"  payable 
in  foreign  countries,  when  purchased,  unless  secured  by  documents,  shall 
bear  one  satisfactory  indorsement  other  than  those  of  the  drawer  or  acceptor, 
preferably  that  of  a  banker.  Federal  Reserve  Banks  should  exercise  due 
caution  in  dealing  in  foreign  bills,  and  boards  of  directors  should  fix  a  limit 
within  which  the  acceptances  or  bills  of  a  single  firm  may  be  taken. 

m.      DOMESTIC   BILLS   OF   EXCHANGE 

The  Federal  Reserve  Board  has  determined  that  a  domestic  bill  of 
exchange,  in  order  to  be  eligible  for  purchase  under  section  14  by  a  Federal 
Reserve  Bank,  at  the  rate  to  be  established  for  open-market  operations — 

a)  Must  be  a  bill  the  proceeds  of  which  have  been  used,  or  arc  to  be 
used,  in  producing,  purchasing,  carrying,  or  marketing  goods  in  one  or  more 
steps  of  production,  manufacture,  and  distribution;  but  shall  not  be  eligible 
if  its  proceeds  have  been  used,  or  are  to  be  used,  for  a  permanent  or  fixed 
investment  of  any  kind;  for  example,  land,  buildings,  machinery,  etc.,  or 
for  any  investment  of  a  merely  speculative  character. 

b)  Must  have  been  drawn  by  a  domestic  or  foreign  firm,  company, 
corporation,  or  individual  upon  a  firm,  company,  corporation,  or  individual 
in  the  United  States;  but  need  not  bear  the  indorsement  of  a  member  bank. 

c)  Must  have  been  accepted  by  the  drawee  prior  to  the  purchase  by  a 


3i8  PRTNCTPLi:S  OF  MONEY  AND  BANKING 

Federal  Reserve  Bank  unless  accompanied  and  secured  by  approved  ware- 
house receipts,  bills  of  lading,  or  other  such  documents  covering  readily 
marketable  goods. 

rV.      DOMESTIC   BILLS — CONDITIONS   OF   PURCHASE 

c)  Before  purchasing  domestic  bills  of  exchange,  the  I-'ederal  Reserve 
Bank  must  secure  statements  concerning  the  condition  and  standing  of  the 
drawer  of  the  paper,  and,  if  possible,  also  of  the  acceptor  of  the  bill,  sufficient 
to  satisfy  the  bank  as  to  the  nature  and  quality  of  the  paper  to  be  purchased. 

b)  No  Federal  Reserve  Bank  will  be  permitted  to  purchase  bills  of  any 
one  drawer,  or  issued  upon  any  one  maker,  to  an  amount  to  exceed  in  the 
aggregate  a  percentage  of  its  capital,  to  be  fixed  from  time  to  time  by  the 
Federal  Reserve  Board,  except  when  secured  by  approved  warehouse 
receipts,  bills  of  lading,  or  other  such  documents  covering  readily  market- 
able goods.  The  aggregate  amount  drawn  on  any  one  acceptor,  purchased 
by  Federal  Reserve  Banks,  shall  not  exceed  a  reasonable  percentage  of  the 
stated  net  worth  of  the  parties  whose  names  appear  upon  the  paper. 

V.      RATES 

Federal  Reserve  Banks  desiring  to  engage  in  open-market  transactions 
in  domestic  bills  of  exchange  shall  communicate  to  the  Federal  Reserve 
Board  the  rate  they  desire  to  establish,  for  review  and  determination. 

157.    TIME  DEPOSITS  AND  SAVINGS  ACCOUNTS' 

The  Federal  Reserve  Board  deems  it  advisable  to  define  under  the 
following  headings  those  deposits  against  which  the  Federal  Reserve 
Act  requires  a  reserve  of  only  5  per  cent  to  be  maintained: 

1.  Time  deposits,  open  accounts. 

2.  Savings  accounts. 

3.  Certificates  of  deposit. 

It  was  clearly  not  the  intention  of  the  Act  to  permit  a  reduction 
of  reserves  to  5  per  cent  upon  deposits  which  may  be  ordinarily 
checked  upon,  but  in  respect  to  which  a  bank,  by  a  blanket  provision 
in  its  by-laws,  may  at  any  time  require  a  withdraw^al  notice  of  not  less 
than  30  days  to  be  given.  Th€  reduction  of  the  reserve  to  be  carried 
against  time  deposits  is  intended  to  apply  only  to  deposits  under 
written  agreement  not  to  be  withdrawn  within  30  days  from  the  date 
as  of  which  the  reserve  calculation  is  made.     Therefore,  on  the  date 

'  Circular  No.  6  and  Regulation  E  of  Federal  Reserve  Board,  Januar\'  15, 
1915.     (Published  in  Monthly  Letter  of  National  City  Bank,  New  York,  February, 

1915-) 


THE  FEDERAL  RESERVE  SYSTEM  319 

of  calculating  reserve,  under  the  definitions  contained  in  the  accom- 
panying regulation,  no  deposit  may  be  deemed  a  time  deposit,  whether 
on  open  account  or  on  certificate — 

a)  If  it  is  payable  within  30  days,  because  of  the  approaching  end  of 
the  specified  period  for  which  it  was  deposited  or  because  of  receipt  of 
notice  of  the  date  on  which  withdrawal  will  be  made. 

b)  If  it  may  be  withdrawn  by  check,  within  30  days,  although  the  bank 
may  have  the  right,  by  written  contract  or  otherwise,  to  require  a  with- 
drawal notice  of  not  less  than  30  days. 

Nor  may  any  certificate  of  deposit  be  considered  a  time  certificate 
if  any  part  of  the  amount  represented  by  it  is  subject  to  check  or  may 
be  withdrawn  without  the  presentation  of  the  certificate  for  proper 
indorsement. 

While  savings  accounts  may  at  any  time,  by  the  action  of  the  bank, 
be  converted  into  time  deposits,  they  are,  nevertheless,  ordinarily 
withdrawable  on  demand.  In  the  absence  of  any  statutory  limitation 
upon  the  sum  which  may  be  received  by  a  bank  from  any  one  indi- 
vidual as  a  savings  account,  the  Board  has  no  authority,  for  the  pur- 
pose of  calculating  reserves,  to  impose  any  such  limitation,  but  it  feels 
strongly  that  in  the  interest  of  both  the  member  banks  and  the  Federal 
Reserve  System,  the  broad  provisions  of  the  Act  in  respect  to  time 
deposits,  savings  accounts,  and  certificates  of  deposit,  should  not  be 
made  the  means  of  any  large  general  reduction  of  reserves  by  a  transfer 
to  those  f onus  of  deposits  which  are  in  substance  demand  deposits;  and 
it  is  the  purpose  of  the  Board  to  countenance  or  permit  a  reduction  of 
reserves  to  5  per  cent  only  on  dei)osits  which  are,  in  fact  as  well  as  in 
form,  entitled  to  such  reduction  witliin  the  spirit  of  the  Act. 

Banks  carrying  savings  accounts  must  record  them  in  separate 
ledgers  which  do  not  contain  ordinary  checking  accounts  or  other 
items.  Open  time  accounts  and  time  certificates  of  deposit  should 
also  be  carried  in  separate  ledgers,  but  if  carried  in  the  same  ledger 
with  current  checking  accounts  they  must  be  grouped  together  so  as 
to  be  readily  distinguished  from  the  latter. 

The  Board  desires  to  make  it  clear  that  the  Act  requires  the  full 
reserve,  at  the  rate  prescribed  for  demand  dcjwsils,  to  be  carried 
against  all  savings  accounts  and  all  lime  ticposils  whether  on  open 
account  or  certificate,  which  are  subject  to  check  or  which  the  bank 
has  ])een  notified  are  to  be  withdrawn  within  30  days. 


320  PRINCIPLES  OF  MONEY  AND  BANKING 

REGULATION   GOVERNING  TIME   AND   SAVINGS  DEPOSITS 

Section  19  of  the  Federal  Reserve  Act  provides,  in  part,  as  follows: 
Demand  deposits,  within  the  meaning  of  this  Act,  shall  comprise  all 
deposits  payable  within  30  liays,  and  time  deposits  shall  comprise  all  de- 
posits payable  after  30  days,  and  all  savings  accounts  and  certificates  of 
deposit  which  are  subject  to  not  less  than  30  days'  notice  before  payment. 

TIME  DEPOSITS,   OPEN   ACCOUNTS 

The  term  "time  deposits,  open  accounts"  shall  be  held  to  include 
all  accounts,  not  evidenced  by  certificates  of  deposit  or  savings  pass- 
books, in  respect  to  which  a  written  contract  is  entered  into  with  the 
depositor  at  the  time  the  deposit  is  made  that  neither  the  whole  nor 
any  part  of  such  deposit  may  be  withdrawn  by  check  or  otherwise. 

SAVINGS   ACCOUNTS 

The  term  "savings  accounts"  shall  be  held  to  include  those 
accounts  of  the  bank  in  respect  to  which,  by  its  printed  regulations, 
accepted  by  the  depositor  at  the  time  the  account  is  opened — 

a)  The  passbook,  certificate,  or  other  similar  form  of  receipt  must  be 
presented  to  the  bank  whenever  a  deposit  or  withdrawal  is  made. 

b)  The  depositor  may  at  any  time  be  required  by  the  bank  to  give 
notice  of  an  intended  withdrawal  not  less  than  30  days  before  a  withdrawal 
is  made. 

TIME   CERTIFICATES   OF   DEPOSIT 

A  "time  certificate  of  deposit"  is  defined  as  an  instrument  evi- 
dencing the  deposit  with  a  bank,  either  with  or  without  interest,  of  a 
certain  sum  specified  on  the  face  of  the  certificate,  payable  in  whole 
or  in  part  to  the  depositor  or  to  his  order — 

a)  On  a  certain  date,  specified  on  the  certificate,  not  less  than  30  days 
after  the  date  of  the  deposit,  or 

b)  After  the  lapse  of  a  certain  specified  time  subsequent  to  the  date  of 
the  certificate,  in  no  case  less  than  30  days,  or 

c)  Upon  written  notice  given  a  certain  specified  number  of  days,  not 
less  than  30  days  before  the  date  of  repayment,  and 

d)  In  all  cases  only  upon  presentation  of  the  certificate  at  each  with- 
drawal for  proper  indorsement  or  surrender. 


THE  FEDERAL  RESERVE  SYSTEM 


321 


158.     COMBINED  STATEMENTS  OF  FEDERAL  RESER\E 
BANKS- 
RESOURCES 


February  4,  1016      January  28,  1916 


Total  gold  reserve 

Legal  tender  notes,  silver,  etc 

Total  reserve 

Bills  discounted  and  loans: 

Maturities  within  30  days 

Maturities  \vithin  60  days 

Maturities  within  90  days 

Over  90  days 

Total 

Investments 

Federal  Reserve  notes,  net 

Due  from  Federal  Reserve  banks,  net 

All  other  resources 

Total  resources 

LIABILITIES 

Capital  paid  in 

Government  deposits 

Reserve  deposits,  net 

Federal  Reserve  notes,  net 

All  other  liabilities 

Total  liabilities 

Gold  reserve  against  net  liabilities 

Cash  reserve  against  net  liabilities 


$342,004,000 
14,637,000 


$356,641,000 

$  17,355,000 

20,740,000 

10,391,000 

2,837,000 


51,323,000 

45,197,000 
33,710,000 
15,223,000 
11,903,000 


5513,997,000 


$349,861,000 
15,496,000 


5365,357,000 

$  19,003,000 

18,518,000 

12,185,000 

3,509,000 


$  53,215,000 

$  41,974,000 

36,469,000 

10,761,000 

9,994,000 


$517,770,000 


$  54,907,000 

29,850,000 

419,137,000 

9,966,000 

137,000 


$513,997,000 

77-1% 
80.4% 


$  54,892,000 

27,760,000 

424,664,000 

10,313,000 

141,000 


$517,770,000 

77-4% 
80.8% 


Rediscount  and  circtilation  compare  with  last  week  as  follows: 


Federal  Reserve  Notes  in 
Circulation 

Rediscounts 

February  4 

January  iS 

February  4 

January  38 

Boston 

New  York 

Philadelphia 

Cleveland 

Richmond 

$     8,902,000 
72,005,000 

7,882,000 
10,292,000 
13,931,000 
16,011,000 

2,613,000 

7,873,000 
12,393,000 
10,077,000 
13,747,000 

5,642,000 

$     8,995,000 
69,055,000 

8,002,000 
10,306,000 
14,055,000 
15,935,000 

2,633,000 

8,009,000 
12,390,000 
10,120,000 
14,003,000 

5,721,000 

$      7,883,000 
11,386,000 
1 ,940,000 
1,145,000 
6,846,000 
5,764.000 
4,374,000 
1,712,000 
1,443,000 
3,o()4,ooo 
4,639,000 
1,127,000 

$   7 ,6 1 1 ,000 
10,663,000 
2,296,000 
1,291,000 
6,898,000 
6,490,000 

Atlanta 

Chicago 

S,?  1 1,000 

St.  Louis 

Minnca[M)lis 

Kansas  City 

Dallas 

1 ,896,000 

I,5()Q,000 

3,360,000 
4,592,000 

San  Francisco 

1,232,000 

Total 

$181,368,000 

$179,224,000 

$51,323,000 

$53,215,000 

"From  Federal  Reserve  Bulletin,  February,  igi6. 


322  PRINCIPLES  OF  MONEY  AND  BANKING 

159.     CLEARINGS  UNDER  THE  NEW  SYSTEM- 

The  provisions  of  the  Federal  Reserve  Act  with  respect  to  the 
introduction  of  a  system  of  clearings  are  found  in  section  16,  where 
it  is  provided  that — 

Every  Federal  Reserve  Bank  shall  receive  on  deposit  at  par  from  mem- 
ber banks  or  from  Federal  Reserve  Banks  checks  and  drafts  drawn  upon  any 
of  its  depositors,  and  when  remitted  by  a  Federal  Reserve  Bank,  checks 
and  drafts  drawn  by  any  depositor  in  any  other  Federal  Reserve  Bank  or 
member  bank  upon  funds  to  the  credit  of  said  depositor  in  said  Reserve 
Bank  or  member  bank.  Nothing  herein  contained  shall  be  construed  as 
prohibiting  a  member  bank  from  charging  its  actual  expense  incurred  in 
collecting  and  remitting  funds,  or  for  exchange  sold  to  its  patrons.  The 
Federal  Reserve  Bank  shall,  by  rule,  fix  the  charges  to  be  collected  by 
the  member  bank  from  its  patrons  whose  checks  are  cleared  through  the 
Federal  Reserve  Bank  and  the  charge  which  may  be  imposed  for  the  service 
of  clearing  or  collection  rendered  by  the  Federal  Reserve  Bank. 

The  Federal  Reserve  Board  shall  make  and  promulgate  from  time  to 
time  regulations  governing  the  transfer  of  funds  and  charges  therefor  among 
Federal  Reserve  Banks  and  their  branches,  and  may  at  its  discretion  exer- 
cise the  functions  of  a  clearing-house  for  such  Federal  Reserve  Banks,  or 
may  designate  a  Federal  Reserve  Bank  to  exercise  such  functions,  and  may 
also  require  each  such  bank  to  exercise  the  functions  of  a  clearing-house  for 
its  member  banks. 

It  is  evident  that  this  provision  distinctly  contemplates  two 
classes  of  work: 

a)  A  clearing  system  providing  for  the  clearing  of  items  among 
member  banks  which  are  stockholders  and  depositors  in  any  Federal 
Reserve  Bank. 

b)  A  clearing  system  which  shall  provide  for  clearing  the  trans- 
actions of  Federal  Reserve  Banks  among  themselves. 

160.     GOLD  CLEARANCE  FUND  AT  WASHINGTOxN^ 

Provision  has  been  made  by  the  Federal  Reserve  Board  for  the 
establishment  of  a  gold  clearance  fund  at  Washington  for  the  purpose 
of  effecting  with  as  little  delay  and  cost  as  possible  settlements  between 
Federal  Reserve  Banks.  This  proposed  plan  of  interbank  settlement 
is  intended  to  complete  and  be  adjusted  to  an  intradistrict  clearance 
system,  but  its  operations  will  be  independent  of  the  latter, 

'  From  First  Annual  Report  of  the  Federal  Reserve  Board,  p.  135. 
'  From  Federal  Reserve  Bulletins,  May  and  December,  1915. 


THE  FEDERAL  RESERVE  SYSTEM  ^^2;^ 

Gold  coin  and  currency  will  be  shipped  to  Wcishington  or  to  a 
subtreasury  and  turned  over  to  the  Treasurer  of  the  United  States, 
who  will  issue  gold  order  certificates  payable  to  the  Federal  Reser\'e 
Board  or  to  any  Federal  Reserve  Bank.  The  books  of  the  gold  settle- 
ment fund  will  show  exactly  how  much  has  been  paid  in  at  the  outset 
by  each  Federal  Reserve  Bank,  and  each  bank  will  be  informed  of  the 
receipt  of  this  amount.  Gold  order  certificates  so  received  will  1)6 
placed  in  a  safe  and  this  safe  in  turn  will  be  placed  in  the  main  vault 
of  the  Treasury  Department. 

When  the  transfers  are  to  be  made  from  one  bank  to  another  as 
the  result  of  change  in  ownership,  two  signatures  will  be  necessary-  on 
the  order  certificates.  These  order  certificates  will  be  prepared  in 
such  a  way  as  to  require  the  signature  of  the  governor  or  acting 
governor  of  the  Board  and  one  additional  person,  who  may  be  either 
the  secretary,  the  fiscal  agent,  or  the  supervisor  of  clearings. 

When  transfers  are  made  by  the  Federal  Reserve  Board,  the 
balances  that  accrue  to  the  respective  reserve  banks  may  be  paid  by 
indorsement  and  by  return  to  the  respective  banks  of  a  like  amount 
of  such  gold  certificates  held  by  the  Federal  Reserve  Board,  or  by  the 
indorsement  and  delivery  to  the  Treasurer  of  a  like  amount  of  such 
certificates  for  which  he  will  give  in  exchange  bearer  gold  certificates, 
which  the  Board  may  send  to  the  banks  by  insured  registered  mail  if 
they  want  funds  other  than  gold  certificates,  or  in  lieu  of  such  pay- 
ment the  Treasurer  may  Ijy  wire  direct  payment  to  be  made  by  a 
subtreasury  ofllice,  provided  that  funds  are  hehl  in  such  office  available 
for  the  purpose. 

The  first  actual  clearing  was  on  May  26,  each  Federal  Reserve 
Bank  at  that  time  being  required  to  deposit  Si, 000,000  in  the  fund 
and  an  amount  in  addition  equal  to  its  inde])tedness  to  other  Federal 
Reserve  Banks. 

Dejiosits  by  the  Federal  Reserve  Banks  in  this  fund  are  counted 
as  legal  reserve.  On  September  8,  1915,  the  Board  authorized 
accounts  to  be  opened  with  the  12  Federal  Reserve  Agents.  The  fund 
is  now  divided  as  follows:  balances  to  the  credit  of  Federal  Reserve 
Banks,  S69, 240,000;  balances  to  the  credit  of  Federal  Reserve  Agents, 
333,380,000.' 

These  amounts  are  now  held  by  the  Board  in  gold  order  certificates 
in  denominations  of  Sio,ooo.  Deposits  in  the  fund  are,  through  the 
courtesy  of  the  Treasury  Department,  made  by  Federal  Reserve 

'  Xovembcr  18,  1915. 


324  PRINCIPLES  OF  MONEY  AND  BANKING 

Banks  through  the  subtreasuries.  When  a  deposit  is  made  at  a  sub- 
treasury,  advice  is  wired  to  the  Treasurer  of  the  United  States  at 
Washington,  who  then  causes  gold  certificates  to  be  issued  to  the 
Federal  Reserve  Board.  When  payments  are  made  from  the  fund, 
the  operation  is  of  course  reversed.  Transfers  are,  however,  for  the 
most  part  on  the  books  of  the  gold  settlement  fund  by  credits  and 
debits  between  the  twelve  banks  or  between  banks  and  the  Federal 
Reserve  Agents. 

i6i.    INTERDISTRICT  COLLECTIONS' 
By  MILTON  C.  ELLIOT 

Another  great  advantage  which  will  accrue  to  the  member  banks 
as  a  result  of  the  establishment  of  this  system  is  the  collection  of 
foreign  or  out-of-town  items.  While  the  subject  of  clearing  items  for 
so  many  banks  and  over  so  large  a  territory  is  one  which  in  itself  will 
require  most  careful  study  in  placing  it  in  operation,  and  one  which 
might  be  made  the  subject  of  a  discussion  of  some  length,  it  must  be 
apparent  to  those  familiar  with  it  that  the  establishment  of  twelve 
distinct  Federal  Reserve  banks,  serving  member  banks  of  twelve  dis- 
tinct districts,  will  furnish  a  machinery  which  will  greatly  reduce  the 
average  time  of  making  collections.  To  illustrate :  Five  banks  in  the 
city  of  Columbus  might  on  the  same  day  receive  for  deposit  five  differ- 
ent items  drawn  on  the  same  bank  in  California.  Under  existing 
conditions  those  five  items  might  be  sent  to  five  different  correspond- 
ents and  might  each  take  a  separate  and  distinct  route  in  going  from 
Columbus  to  California,  so  that  the  return  from  the  items  drawn  on 
the  same  point  might  each  be  received  at  a  different  time. 

This  is  manifest  because  one  bank  in  Columbus  might  send  it  to 
its  correspondent  in  New  York,  which  in  turn  might  send  it  to  its 
correspondent  in  Chicago,  which  in  turn  might  send  it  to  its  corre- 
spondent elsewhere,  and  the  item  would  normally  be  kept  in  transit 
until  it  reached  a  bank  which  happened  to  be  a  correspondent  of  the 
bank  on  which  the  item  was  drawn  or  else  reached  the  city  in  which 
the  bank  is  located  against  which  the  item  was  drawn  and  is  presented 
by  some  other  bank  in  that  city.  Another  bank  might  send  its  item 
for  collection  through  an  entirely  different  set  of  correspondent  banks. 

When  the  Federal  Reserve  banks  have  been  established,  however, 
and  the  machinery  has  been  worked  out  for  the  handling  of  such 

'  Adapted  from  an  address  before  the  Ohio  Bankers'  Association,  May,  19 14. 
(Published  in  Monthly  Letter  of  National  City  Bank,  New  York,  June,  1914.) 


THE  FEDERAL  RESERVE  SYSTEM  325 

items,  all  the  items  from  Columbus  could  go  at  once  to  the  Federal 
Reserve  bank  of  its  district  in  Cleveland,  from  the  Federal  Reserve 
bank  of  Cleveland  direct  to  the  Federal  Reserve  bank  of  San  Fran- 
cisco, and  assuming  that  they  are  drawn  on  member  banks  the 
Federal  Reserve  bank  of  San  Francisco  would  necessarily  be  a  corre- 
spondent of  the  bank  in  question.  Consecjuently,  the  saving  in  the 
average  time  of  collection  of  foreign  items  will  unquestionably  be  very 
great  and  the  loss  of  the  use  of  funds  in  transit  will  be  correspondingly 
reduced. 

C.     Relation  of  the  System  to  Other  Banking  Institutions 

162.    MEMBERSHIP  OF  STATE  BANKS  IN  THE  FEDERAL 
RESERVE  SYSTEM' 

The  Federal  Reserve  Board  has  prepared  and  issued  regulations 
(Circular  No.  14,  19 15)  relating  to  the  membership  of  state  banks  in 
the  federal  reserve  system.  Provision  is  made  for  the  entrance  of 
state  banks  into  the  system  at  the  Board's  discretion,  upon  appUca- 
tion,  subject  to  various  restrictions  and  conditions  of  examination. 
The  two  outstanding  points  in  the  circular  are  that  it  permits  the 
withdrawal  of  state  banks  which  may  have  become  members,  under 
specified  conditions,  and  that  it  permits  such  state  banks  as  become 
and  continue  members  to  e.xercise  their  statutory  and  charter  rights 
after  entrance  into  the  system  just  as  before.  This  means  that  they 
may  continue  to  loan  on  real  estate  security  without  reference  to  the 
restrictions  imposed  upon  such  loans  under  the  National  Bank  act, 
although  the  regulations  pro\ide  that  a  state  bank  which  becomes  a 
member  shall  invest  in  such  loans  only  to  an  e.xtent  which  will  not 
impair  its  liquid  condition.  The  terms  of  the  circular  have  been  under 
consideration  by  the  Board  more  or  less  continuously  ever  since  the 
organization  of  the  federal  reserve  banks,  and  are  the  outcome  of 
many  consultations  with  bankers  and  experts.  Legal  advice,  also, 
has  been  sought  in  numerous  quarters.  While  the  interpretation  of 
the  provision  of  the  Federal  Reserve  act  concerning  membershij)  of 
state  banks  offers  considerable  difliiculty,  it  is  believed  that  the  plan 
now  proposed  complies  with  the  recjuirements  of  tlie  law. 

The  question  whether  the  admission  of  state  banks  witli  power  to 
continue  their  real  estate  loans,  and  with  permission  to  withdraw, 

'  Adapted  from  "Washington  Notes"  in  Journal  of  Political  Economy,  XXIII 
(July,  1915),  717-19- 


326  I'RINCII'LKS  OF  MONEY  AND  BANKING 

places  them  in  a  ])osition  of  advantage  which  might  subject  the 
national  banks  to  unduly  severe  competition,  has  been  widely  dis- 
cussed, but  it  is  thought  that  if  such  a  danger  exists  it  can  be  largely 
avoided  by  exercising  adequate  care  with  reference  to  the  admission 
of  banks  to  membership.  No  banks  will  be  admitted  unless  they  are 
sufFiciently  strong  and  well  managed  to  insure  their  being  eflfective 
working  members  of  the  system,  conducting  their  business  upon  a 
high  plane  and  observing  all  the  requirements  of  sound  management. 
While  it  is  not  intended  to  duplicate  state  examinations  more  than 
necessary,  or  to  impose  an  undue  l^urden  of  exj^ense  upon  member 
banks,  the  Board's  supervision  is  expected  to  be  such  as  to  insure  the 
maintenance  of  stable  and  generally  uniform  conditions  of  competi- 
tion among  all  the  banks  of  the  system,  whether  state  or  national. 
The  circular  and  regulations  provide  for  reliance  upon  state  bank 
examinations  to  the  fullest  extent  that  is  possible,  and  for  the  making 
of  co-operative  arrangements  between  state  and  national  authorities 
with  reference  to  such  examinations.  This  will  lessen  the  expense  of 
overseeing  the  system,  and  will  remove  the  possibility,  which  might 
otherwise  exist,  that  state  banks  might  be  constantly  under  examina- 
tion by  various  classes  of  examiners. 

There  has  been  no  effort  to  forecast  the  number  of  banks  that  will 
probably  enter  the  system  in  the  near  future  under  the  provisions  of 
the  circular  and  regulations.  The  Board  states  in  its  circular  that  it 
is  more  concerned  with  the  quality  of  the  members  than  with  their 
number;  and  it  is  prepared  to  see  a  slow,  steady  increase  in  the 
number  of  banks,  each  institution  admitted  being  granted  member- 
ship only  upon  satisfactory^  evidence  that  it  will  be  a  source  of  strength 
to  the  system. 

It  is  probable  that  state  bankers  who  have  what  to  them  seems 
good  ground  for  postponing  action  will  continue  to  find  reasons  for 
delay  for  some  time  to  come,  and  will  not  bestir  themselves  to  join 
the  system  until  a  fresh  motive  is  afforded  them  for  so  doing.  If 
the  rediscount  plan  operates  as  it  is  expected  to,  state  banks  will  get  the 
benefit  of  it  indirectly  by  finding  themselves  able  to  dispose  of  their 
paper  on  favorable  terms  in  the  open  market  without  necessarily 
going  to  a  federal  reserve  bank  for  accommodation.  It  is  rather  to 
be  expected  that  the  motive  tending  to  lead  state  bankers  to  enter  the 
svstem  will  be  found  in  the  clearing  function.  If  the  clearance  pro- 
vision in  the  Federal  Reserve  act  proves  successful,  it  may  be  expected 
that  business  will  be  transferred  to  the  member  banks  by  those  who 


THE  FEDERAL  RESERVE  SYSTEM  327 

will  appreciate  the  immense  advantage  open  to  them  as  a  result  of  the 
provision  freeing  them  from  the  conditions  to  which  thf\-  lia\ i-  hire- 
tofore  been  subjected  in  regard  to  domestic  exchange. 

163.    A  STATE  BANKER'S  VIEW  OF  THE  FEDERAL  RESERVE 

SYSTEM' 

By  frank  N.  BRIGGS 

There  are  many  reasons  why  state  banks  and  trust  companies 
should  act  with  great  deliberation  in  reference  to  entering  the  new 
federal  reserve  banking  system,  and  I  will  undertake  to  mention  a  few 
of  them  very  briefly. 

First,  the  law  is  made  for  national  banks  only.  Until  it  shall  be 
so  amended  as  to  be  helpful  and  not  detrimental  to  state  banks  and 
trust  companies  they  should  remain  out  of  the  system. 

Second,  those  entering  the  new  system  will  probably  be  subject 
to  double  examinations,  both  state  and  national,  double  reports,  con- 
flicting laws,  unusual  expenses,  and  a  curtailment  of  privileges  now 
enjoyed  under  state  laws. 

Third,  at  the  present  time  state  banks  and  trust  companies  are 
able  to  supply  needs  in  their  various  communities  for  the  development 
and  promotion  of  business  that  cannot  be  supplied  by  national  Ijanks. 
This  then  brings  us  face  to  face  with  the  best  protection  of  the  public 
and  the  fullest  development  of  the  countr\'.  The  new  law  appears 
to  me  to  have  been  especially  constructed  and  is  now  being  adminis- 
tered largely  for  the  benefit  of  big  business  and  big  undertakings. 
It  has  no  functions  thus  far  developed  that  a])peal  personally  and 
directly  to  the  small  business  man,  merchant,  small  farmer,  small 
stock-raiser,  small  manufacturer,  or  plain  ordinary-  citizen.  Of  course, 
by  aiding  *the  large  institutions  the  system  will  probably  indirectly 
aid  the  small  ones. 

In  the  fourth  place  commercial  paper  is  the  great  and  important 
item  to  be  used  for  rediscounts  at  the  federal  reserve  banks.  This  can 
be  issued  and  is  issued  only  by  large  concerns  moving  great  quantities 
of  merchandise  or  products  and  receiving  quick  returns  on  the  same 
in  cash.  Theoretically  this  is  fine,  but  unfortunately  all  of  the  busi- 
ness of  the  country  is  not  and  cannot  be  turned  over  inside  of  thirty, 
sixty,  or  ninety  days.     There  should  therefore  be  some  financial  insti- 

■  Adapted  from  an  address  before  the  Colorado  Bankers'  .Association.  Chicago 
Ijiiukcr,  January  30,' 1915,  pp.  7-8. 


328  PRINCIPLES  OF  MONEY  AND  BANKING 

tutions  in  the  country  that  can  take  on  at  least  a  limited  amount  of 
such  business  which  is  sound,  safe,  and  secure,  but  not  as  quickly 
liquid  as  the  preferred  classes  mentioned  in  the  reserve  bank  act. 

Fifth,  customers  of  country  banks  know  very  little  about  making 
statements,  and  it  would  be  very  difficult  for  a  country  bank  to  meet 
the  "red-tape"  requirements  of  the  federal  reserve  banks  when  dis- 
counts are  needed.  A  statement  must  be  filed  for  the  maker  of  each 
note  offered  for  rediscount,  certain  appHcation  blanks  must  be  filled 
out  and  filed,  and  a  great  deal  of  necessary  routine  gone  through  before 
a  loan  can  be  secured  or  paper  rediscounted.  I  believe  the  small 
member  banks  and  non-member  banks  must  rely,  as  heretofore, 
largely  upon  their  correspondents  in  the  larger  centers  to  supply  them 
with  funds  as  needed  for  emergencies.  Fortunately,  such  banks  do 
not  need  accommodations  very  often. 

Sixth,  it  would  be  very  dangerous  to  place  the  entire  banking 
business  of  the  country  under  the  control  of  a  federal  board  at  Wash- 
ington. No  other  free  country  that  I  know  of  has  ever  succeeded  in 
forcing  all  banking  institutions  to  come  under  absolute  governmental 
control. 

Is  it  not  unwise  to  take  on  the  risks  and  the  obligations  entailed  by 
becoming  members  of  the  reserve  system  when  it  is  not  necessary  to 
do  so  ?  While  there  are  benefits  and  advantages  to  those  banks  that 
are  members  of  the  system,  these  are  more  or  less  counterbalanced 
at  this  time  by  the  risks,  curtailment  of  privileges,  limitation  of 
functions,  added  expenses,  and  other  disadvantages  offered  by  the 
system. 

State  banks  and  trust  companies  are  in  a  very  fortunate  position, 
both  for  themselves  and  for  their  patrons,  in  being  able  to  stand  aside 
during  the  formative  period — we  might  say  the  experimental  stage — of 
the  new  national  banking  system  and  steady  the  financial  ship  while 
the  national  banks  trim  their  sails  and  adjust  their  craft  to  suit  the 
current  of  the  new  stream.  These  twenty  thousand  or  more  state 
banks  and  trust  companies,  remaining  serene  and  undisturbed,  are 
able  to  take  care  of  their  business  in  the  usual  way,  co-operating  at  all 
times  in  a  most  friendly  and  patriotic  spirit  in  bringing  the  new 
national  system  to  its  highest  efficiency  and  most  perfect  state  of 
usefulness. 


THE  FEDERAL  RESERVE  SYSTEM  329 

164.    THE  ATTITUDE  OF  THE  FEDERAL  RESERVE  BOARD' 
By  CHARLES  S.  HAMLIN 

We  are  anxious  that  the  state  banks  generally  shall  come  into  the 
system — some  of  them  seem  to  be  holding  aloof  and  waiting.  The 
Federal  Reserve  Board  has  done  evervthing  in  its  power  to  liberalize 
the  regulations  for  the  admission  of  state  banks.  I  want  to  say 
frankly  that  this  system  has  succeeded,  and  will  succeed,  whether  the 
state  banks  come  in  or  not,  but  the  bigger  the  base  the  stronger  the 
edifice,  and  I  believe  it  highly  desirable  that  all  state  banks  join 
the  system.  About  thirty  of  the  large,  strong  banks  have  joined,  and 
there  is  quite  a  waiting  list  now  of  those  who  desire  to  come  in,  but  I 
want  to  make  the  prediction  that  if  the  state  banks  do  not  come  into 
the  federal  reserve  system,  sooner  or  later  they  will  have  to  establish 
a  system  of  their  own,  and  if  they  go  to  their  state  legislatures  and 
ask  authority,  the  first  question  will  be:  "Why  have  you  not  entered 
the  federal  reserve  system?"  Such  a  system  would  require  special 
legislation  in  several  states,  and  would  require  years  to  put  through. 
I  earnestly  hope  in  the  near  future  to  see  the  state  banks  coming  into 
the  federal  reserve  system,  and  I  want  to  hold  out  this  thought  to 
them,  that  if  they  come  in  now  they  will  come  in  easily,  because  their 
assets  are  hquid;  but  the  time  may  come  when  the  state  bank  wants 
to  come  in  quickly,  and  the  bank  may  find  its  assets  are  not  in  a  Hquid 
condition  and  it  will  take  time  and  trouble  to  get  in. 

Our  regulations  have  been  very  moderate.  We  have  interfered 
very  little  with  the  powers  of  the  state  banks.  The  state  banks  which 
come  into  the  system  can  still  loan  on  real  estate  when  national  banks 
have  never  been  permitted  to  do  that  except  to  a  limited  extent  under 
the  Federal  Reserve  act.  They  can  come  in  with  all  their  branches 
and  do  business  side  by  side  with  national  banks  that  are  not  author- 
ized directly  to  have  branches.  We  even  accept  the  examination 
of  the  state  autliorities  where  we  find  that  those  examinations  are 
sound  and  good;  that,  certainly,  is  a  great  privilege  for  the  state 
banks.  We  even  have  gone  so  far  that  we  say  to  the  state  bank  that, 
once  in,  you  can  withdraw  on  a  year's  notice;  I  tliink  that  is  a  privi- 
lege the  state  banks  must  appreciate.  But  we  do  not  believe  that  one 
of  them  would  look  ])ack  to  see  whether  the  door  was  open  or  closed 
after  it  had  once  entered  the  system. 

'Adapted  from  an  (unpublished)  address  before  the  Western  Economic  Society, 
November,  1915. 


330  PRINCIPLES  OF  MONEY  AND  BANKING 

Somelimcs  a  l^ank  president  may  say,  "Why  should  a  state  bank 
come  in,  if  it  is  true  that  the  system  is  a  great  success  and  we  can 
never  have  any  more  panics?"  Now  I  think  it  is  true  that  we  will 
never  have  any  more  panics,  but  that  does  not  mean  that  individual 
state  banks  will  not  have  trouble  in  the  future  as  they  have  had 
trouble  in  the  past.  And  when  they  do  come — for  I  believe  there 
will  be  a  long  line  of  state  banks  at  the  first  touch  of  stringency — 
then  they  must  take  the  last  place  in  the  line  to  be  examined,  and 
it  will  take  longer.  But  if  you  still  ask,  What  use  it  is,  because  we 
can  never  have  a  general  conflagration  again  ?  a  man  might  just  as 
well  get  up  when  there  is  a  motion  to  put  in  a  system  of  hydrants 
in  a  city,  and  say  he  read  the  other  day  the  report  that  the  hydrant 
systems  over  the  United  States  are  so  eflacient  that  the  whole  United 
States  could  now  never  be  burnt  up.  I  think  that  would  be  almost 
as  sensible  an  answer  as  the  one  we  occasionally  receive.  Now, 
when  times  of  stringency  and  tight  money  come,  banks  will  not 
be  able  to  get  the  assistance  outside  of  the  system  that  they  have 
previously  secured,  even  from  the  national  banks. 

I  believe,  however,  that  this  question  will  be  largely  settled  by  the 
customers  of  the  bank.  If  a  man  were  going  into  a  small  town  to 
start  an  elaborate  business,  requiring  much  capital  and  credit,  and 
he  were  to  find  two  state  banks  there,  one  belonging  to  the  federal 
reserve  system  and  one  not  belonging  to  it,  would  it  take  that  man, 
if  he  were  prudent,  long  to  decide  where  to  put  his  deposits?  I 
believe  that  the  people  of  the  United  States  in  the  long  run  will  see 
to  it  that  the  banks  they  deal  with  sooner  or  later  become  memloers 
of  the  federal  reserve  system. 

165.    NEW  YORK'S  NEW  STATE  BANKING  LAW' 
By  THEO.  H.  price 

In  April,  19 14,  the  state  of  New  York  passed  a  new  bank  act, 
designed  for  the  rriost  part  to  enable  the  state  institutions  to  compete 
with  the  banks  in  the  Federal  Reserve  system. 

The  most  important  of  these  changes  in  the  law  have  to  do  with 
reserves  and  acceptances. 

'Adapted  from  an  article  on  "Commerce  and  Finance"  in  the  Outlook,  C\'I 
(1914),  813-15. 


THE  FEDERAL  RESERVE  SYSTEM  331 

In  the  matter  of  reserves  the  proposed  changes  follow  closely  the 
provisions  of  the  Federal  Reserve  Bill.  Under  the  new  law  the 
reserves  required  will  be: 

Location                                       State  Banks  Trust  Companies 

In  a  borough  with  a  popu-  Reserve    18    per    cent,    of  Reserve    15    per    cent,    of 

lation  of   2,000,000  or      which  12  per  cent  shall  be  which  10  per  cent  shall  be 

ov'er  (i.e.,  Manhattan)       on  hand  and  6  per  cent  on  hand  and  5  per  cent 

may  be  on  deposit  ma\-  be  on  deposit 

In  a  borough  with  a  popu-  Reserve     15    per    cent,    of  Reserve    13    per    cent,    of 

lation  of  over  1,000,000  which  10  per  cent  shall  be      which  8  per  cent  shall  be 

and  not  more  than  2,-  on  hand  and  5  per  cent      on  hand  and  5  per  cent 

000,000  and  not  having  may  be  on  deposit                 may  be  on  deposit 
an  office  in  a  larger  bor- 
ough 

P^Isewhere  in  state  Reserve    t2    per    cent,    of  Reserve    10    per    cent,    of 

which  4  per  cent  shall  be      which  4  per  cent  shall  be 

on  hand  and  8  i)er  cent      on  hand   and  6  per  cent 

may  be  on  deposit  may  be  on  dejxjsit,  except 

that  in  cities  of  less  than 

100,000  ix)pulation   only 

3  per  cent  need  be  on  hand 

At  least  one-half  the  reserves  on  hand  shall  consist  of  gold  bullion, 
gold  coin,  gold  certificates,  or  United  States  notes,  and  the  remainder 
shall  consist  of  lawful  money  of  the  United  States  or  any  other  form 
of  currency  authorized  by  the  United  States.  State  banks  and  trust 
companies  that  become  members  of  the  Federal  Reserve  system  may 
keep  the  reserves  permitted  to  be  on  dej^osil  with  the  Federal  Reserve 
Bank. 

Other  reserve  depositaries  shall  be  designated  by  the  Superin- 
tendent of  Banking. 

The  reduction  in  the  reserves  for  which  the  new  law  provides  will 
undoubtedly  work  a  great  enlargement  in  the  credit  which  the  State 
institutions  will  be  al:)le  to  extend.  In  the  provision  which  is  made 
for  acceptances  the  greatest  possibility  of  credit  expansion  is  to  be 
found.  In  brief,  this  portion  of  the  law  permits  Slate  banks  and  trust 
companies  to  accept  drafts  on  them  and  payable  within  one  year. 

The  liability  of  institutions  in  the  Borough  of  Manhattan  on 
account  of  such  acceptances  for  account  of  any  one  individual,  lirm, 
or  corporation  is  limited  to  25  per  cent  of  their  capital  and  surplus. 
Banks  and  trust  companies  elsewhere  may  accept  the  drafts  of  any 


332  PRINCIPLKS  OF  MONKY  AND  BANKING 

one  individual,  firm,  or  corporation  up  to  40  per  cent  of  their  capital 
and  surplus.  The  drafts  so  accepted  must  be  drawn  in  good  faith 
against  actually  existing  values,  or,  where  they  exceed  10  per  cent  of 
the  bank's  capital  and  surplus,  may  be,  to  the  extent  of  the  excess  so 
authorized,  secured  by  collateral  having  an  ascertained  market  value 
that  is  15  per  cent  more  than  the  obligation  against  which  it  is 
hypothecated. 

Under  the  new  law  State  institutions  may  accept  bills  to  the 
extent  of  25  per  cent  to  40  per  cent  of  their  aggregate  capital  and 
surplus,  "multiplied  by  the  number  of  individuals,  firms,  and  cor- 
porations who  desire  and  can  arrange  for  this  form  of  credit." 

The  bill  contains  many  other  interesting  provisions.  One  of  these 
permits  the  formation  of  land  banks  with  authority  to  issue  debenture 
bonds  against  guaranteed  real  estate  mortgages.  Another  imposes 
some  rather  drastic  restrictions  upon  private  and  unincorporated 
bankers. 

It  is  unnecessary,  however,  to  discuss  these  provisions;  they  are 
chiefly  of  local  interest. 

The  changes  that  are  nation-wide  in  their  importance  are  those 
that  relate  to  reserves  and  acceptances.  There  is  reason  to  believe 
that  the  other  States  of  the  Union  have  been  awaiting  New  York's 
action  in  regard  to  its  banking  system  and  will  speedily  follow  suit 
in  changing  their  laws  so  that  the  State  institutions  throughout  the 
country  may  compete  with  the  increased  facilities  which  the  National 
banks  will  be  able  to  offer  under  the  Federal  Reserve  system. 

The  liberalization  of  the  right  to  accept,  for  which  the  New  York 
law  provides,  will  enable  the  State  institution  to  grant  far  greater 
facilities  in  this  respect  than  the  National  banks  can  offer.'  On  the 
other  hand,  the  State  institutions  that  do  not  become  members  of  the 
Federal  Reserve  system  will  be  unable  to  avail  themselves  of  the  pro- 
visions of  the  Federal  Reserve  bill  in  the  matter  of  rediscounts  and 
Federal  Reserve  notes. 

It  seems  probable,  therefore,  that  the  competition  in  the  extension 
of  credits  which  is  almost  certain  to  come  when  the  two  systems  are 
fully  organized  will  be  one  of  rediscounts  versus  acceptances.  The 
extent  to  which  either  or  both  of  these  means  of  credit  extension  shall 
be  popularized  and  availed  of  will  depend  largely  upon  the  education 
of  the  public  as  to  their  respective  merits. 

'  This  advantage  has  now  been  largely  overcome  by  granting  to  Federal 
Reserve  Banks  the  right  of  accepting  domestic  bills  of  exchange. — Editor. 


THE  FEDERAL  RESERVE  SYSTEM  333 

In  New  York  attempts  are  already  being  made  to  form  one  or  two 
institutions  with  large  capital  whose  business  shall  be  confined  to  the 
purchase  and  sale  of  accepted  bills. 

The  interdependence  of  the  banks  in  the  Federal  Reserve  system 
and  the  facilities  that  they  will  enjoy  in  the  matter  of  rediscounts  and 
the  procurement  of  Federal  Reserve  notes  will,  of  course,  give  them  a 
great  advantage  in  times  of  stringency,  but  during  periods  of  monetary 
ease  the  State  institutions  will  doubtless  be  able  to  attract  much  busi- 
ness now  controlled  by  the  National  banks. 

It  seems  altogether  likely  that  during  the  transitionary  period  the 
competition  between  the  State  and  Federal  banks  will  be  exceedingly 
keen. 

The  appeal  of  the  Federal  system  will  be  in  its  National  solidarity 
and  the  security  which  that  solidarity  implies,  but  the  public  will 
have  to  be  educated  to  appreciate  the  importance  of  this  factor. 

166.    THE  TRUST  COMPANIES  AND  THE  FEDERAL 
RESERVE  ACT' 

In  the  process  of  carrying  into  effect  the  provisions  of  the  Federal 
Reserve  act,  the  Federal  Reser\'e  Board  has  encountered  an  unex- 
pected difficulty.  The  Federal  Reserve  act  in  subsection  (k)  of  sec- 
tion II  provided  that  the  Board  might,  when  such  action  was  not  in 
contravention  of  state  or  local  law,  grant  to  national  banks  the  power 
to  exercise  the  functions  of  trustee,  executor,  administrator,  and  regis- 
trar of  stocks  and  bonds.  Regulations  stating  the  conditions  under 
which  these  powers  might  be  applied  for  were  not  issued  by  the 
Federal  Reserve  Board  until  February'  15,  1915,  but,  as  soon  as  they 
had  been  placed  in  circulation,  a  considerable  number  of  applications 
were  at  once  filed.  Trust  companies  in  a  number  of  slates,  and  state 
banks  in  several  others,  believing  that  the  competition  to  which  the>- 
would  be  subjected  by  national  banks,  should  the  latter  be  vested  with 
the  right  to  exercise  the  desired  powers,  would  be  injurious,  immedi- 
ately undertook  to  secure  action  by  state  authorities  designed  to  pre- 
vent the  extension  of  the  functions  referred  to.  In  several  states 
legislation  has  already  been  enacted  at  the  instance  of  state  banks  or 
trust  companies,  or  both,  prohibiting  the  exercise  of  such  functions, 
and  in  several  more  there  has  been  a  refusal  on  the  part  of  the  state 
legislatures  to  enact  any  measure  removing  the  existing  disabilities 

'  Adapted  from  "Washington  Notes"  in  Journal  of  PolilicaJ  Economy,  XXI 1 1 
(1915),  S11-12. 


334  PRINCIPLES  OF  MONEY  AND  BANKING 

from  national  banks  and  permitling  them  to  exercise  the  functions 
referred  to,  should  they  be  empowered  so  to  do  by  the  Federal  Reserve 
Board.  In  other  states  the  contest  is  still  in  progress  and  bids  fair 
to  continue  active  for  a  good  while  to  come.  On  the  other  hand,  a 
number  of  states,  particularly  in  the  West  and  Middle  West,  have 
already  enacted  enabling  legislation  under  which  national  banks  may 
exercise  the  functions  authorized  by  the  Federal  Reserve  act,  subject 
to  the  supervision  and  control  of  the  Federal  Reserve  Board. 

The  trust  companies,  recognizing  that  their  opposition  to  the  pro- 
visons  of  the  Federal  Reserve  act  in  this  respect  has  been  in  part 
ineffectual,  have  obtained  adverse  legal  opinions  and  arranged  to  file 
suit  designed  to  test  the  constitutionality  of  the  provision  in  the  act 
to  which  objection  is  thus  taken.  Such  a  suit  will  be  designed  to  test 
the  question  whether  Congress  has  power  to  grant  authority  of  the 
kind  specified  to  federal  reserve  banks  or  to  any  other  corporation 
whatever,  and,  should  the  decision  be  adverse  to  the  power  of  Con- 
gress, national  banks  would  be  unable  to  exercise  the  functions  in 
question  even  in  those  states  in  which  local  law  was  favorable,  and  in 
which,  therefore,  it  was  manifest  that  the  people  were  desirous  that 
national  banks  should  be  empowered  and  authorized  to  do  such  work. 

The  point  at  issue  is  one  which  involves  more  than  the  mere  busi- 
ness interests  of  the  trust  companies  of  the  country,  it  being  essential 
to  the  question  whether  or  not  the  effort  of  the  framers  of  the  act  to 
obtain  a  unification  of  the  banking  system  shall  or  shall  not  be  suc- 
cessful. The  act,  as  is  well  known,  provided  for  the  admission  of 
state  banks  as  members  of  the  federal  reserve  system  upon  a  practical 
equality  of  privilege  with  national  banks.  In  order  to  offset  the 
favorable  position  thus  given  to  state  banks,  and  thereby  to  remove 
any  incentive  that  might  otherwise  exist  for  national  banks  to  sur- 
render their  charters  and  recharter  under  state  law  (becoming  mem- 
bers of  the  federal  reserve  system  at  will,  if  so  disposed),  the  Federal 
Reserve  act  granted  them  the  trust  company  powers  which  are  now 
under  discussion.  It  was  felt  that  by  so  doing  national  banks  would 
be  enabled  to  exercise  some  of  the  profitable  functions  heretofore 
exercised  only  by  trust  companies,  and  th;pt  under  these  conditions 
they  could  afford  to  bear  the  competition  to  which  they  would  be  sub- 
jected through  the  entry  of  trust  companies  into  the  federal  reserve 
system,  vested,  as  most  of  them  are,  with  full  commercial  banking 
powers  in  addition  to  their  other  rights.  To  hold  that  the  Federal 
Reserve  act  is  unconstitutional  in  respect  to  the  provisions  cited 


THE  FEDERAL  RESERVE  SYSTEM  ;,35 

would  produce  a  state  of  affairs  in  which,  while  national  hanks  were 
subjected  to  the  rigid  regulatitMis  already  applicable  to  them  and 
were  prohibited  from  engaging  in  trust  business,  the  trust  companies 
(already  authorized  to  exercise  so  wide  a  range  of  functions)  would 
be  able  to  present  themselves  to  the  public  as  qualified  to  compete 
on  equal  terms  with  the  national  banks  already  in  the  system.  This 
makes  it  evident  that  the  real  question  at  issue  in  the  trust  company 
discussion  is  the  extent  to  which  the  Federal  Reserve  Board  shall 
be  permitted  to  proceed  with  its  effort  to  harmonize  and  unify  the 
banking  system  of  the  country  by  bringing  about  a  general  fede- 
ration of  all  commercial  banks  under  its  jurisdiction.  The  P^ederal 
Reserve  Board  has,  however,  taken  no  part  in  the  actual  legislative 
discussion  in  the  various  states,  contenting  itself  with  merely 
announcing  that  it  was  in  sympathy  with  the  cfTort  to  give  elTect 
to  the  trustee  and  executor  provisions  of  the  Federal  Reserve  act. 

167.     DEPARTMENT-STORE  BANKING' 

Is  "department-store  banking"  to  be  the  final  outcome  of  the 
forces  now  working  toward  increasing  the  functions  that  may  be  per- 
formed by  national  banks  and  the  counterforces  that  would  extend 
the  powers  of  trust  companies,  if  they  are  unable  to  keep  their 
monopoly  of  trust  powers?  Will  each  little  town  that  now  has  only 
a  national  or  a  state  bank  or  a  trust  company  possess  in  the  future  a 
single  institution  with  all  the  functions  of  a  bank,  with  those  of  a 
trust  company  added,  a  savings  department,  and  a  safe- deposit  vault 
in  the  basement  ?  If  so,  will  not  the  inevitable  tendency  be  to  reduce 
all  such  institutions  to  the  same  basis  and  i)crhai>s  leave  only  one 
kind  of  bank,  all  in  the  Federal  Reserve  system  and  all  under  Federal 
supervision;  in  a  word,  all  national  banks? 

These  are  the  questions  that  some  bankers  have  been  turning  over 
in  their  heads  and  discussing  since  the  irrepressible  conllict  between 
national  banks  and  trust  companies  over  the  question  of  trust  powers 
has  come  to  a  head  in  New  York  State.  Forces  are  at  work,  growing 
out  of  the  enactment  of  the  Federal  Reserve  Act,  which  tend  to  j)ut 
all  banking  concerns  on  an  even  iooting,  making  each  bank  not  only 
that,  but  a  savings  institution  and  a  trust  comjiany  as  well. 

The  provisions  in  the  Federal  Reserve  Act  em[)owering  the  Federal 
Reserve  Board  to  grant  to  national  banks  trust  comi)any  and  savings 
bank  powers,  together  with  the  provision  for  limited  loans  on  real 

'  Adapted  from  "  Department-Store  Banking,"  The  Annalist,  \  (^•^■'■y   • ;  1 


336  PRINCIPLES  Ol'"  MONEY  AND  JiANKlNG 

estate  security,  show  a  strong  tendency  to  put  all  banks  and  trust 
companies  on  a  common  level,  except  for  the  advantages  that  inure 
especially  to  members  of  the  Federal  Reserve  system. 

Along  with  these  considerations  is  the  problem  of  getting  the 
State  institutions  into  the  Federal  Reserve  system.  Federal  Reserve 
officials  have  admitted  frankly  that  the  system  will  not  be  fully  suc- 
cessful unless  the  bulk  of  the  20,000  state  institutions  in  the  country, 
in  addition  to  the  7,600  national  banks,  are  brought  into  it. 

168.    THE  FEDERAL  RESERVE  SYSTEM  NOT  A  HARMONIZING 

AGENCY' 

By  A.  D.  WELTON 

Fifty  years  of  experience  under  a  banking  system  which  confused 
commercial  banking  with  all  other  kinds  and  all  other  kinds  with 
commercial  banking  has  left  what  seems  to  be  an  ineradicable  trace 
on  the  new  banking  system.  National  banks,  facing  competition 
from  state  institutions  not  subjected  to  similar  restraints,  have 
declined  to  welcome  the  provision  which  permits  the  Federal  Reserve 
Board  to  confer  trust  company  powers  on  them.  State  banks  have 
objected  to  such  an  expansion  of  the  powers  of  national  banks,  not 
because  they  have  any  particular  fear  that  commercial  banking  will 
be  contaminated,  but  they  desire  to  keep  the  advantages  they  have 
over  their  competitors. 

In  most  of  the  states  the  laws  permit  state  banks  to  do  all  kinds 
of  banking  business,  including  the  exercise  of  trust  company  func- 
tions. How  this  came  about  is  not  material.  The  important  thing 
is  that  it  came  about  and  that  it  promotes  the  confusion  of  ideas  about 
the  various  kinds  of  banking  business.  Theoretically  and  ideally 
commercial  banks  should  confine  themselves  to  commercial  banking; 
trust  companies  should  confine  themselves  to  fiduciary  matters,  and 
savings  business  should  be  done  by  savings  banks.  Again,  theoreti- 
cally, if  the  various  kinds  of  banking  business  are  done  by  a  single 
institution  the  departments  should  not  be  mixed  up  with  one  another. 
Practically,  and  because  of  the  banking  laws  of  the  states  and  the 
apparent  desire  of  bankers  to  engage  in  all  branches  of  banking,  refor- 
mation seems  to  be  out  of  the  question,  but  the  situation  contains  no 
reason  for  permitting  national  banks  to  step  outside  of  the  field  of 
commercial  banking.     The  tendency  to  demand  this  and  to  permit 

'Adapted  from  Journal  of  the  American  Bankers'  Association,  Ylll  (1916), 
C'S8-S9- 


THE  fedi;ral  ri:si:rve  system  337 

it  finds  its  impulse  in  the  desire  of  national  banks  to  compete  on  equal 
terms  with  state  institutions.  Moreover,  in  the  towns  and  smaller 
cities  there  is  not  enough  banking  business  of  a  single  kind  for  one 
bank  or  trust  company.  To  serve  the  community  adequately  one 
bank  must  do  various  kinds  of  business. 

Instead  of  harmonizing  the  different  kinds  of  banks  and  the  differ- 
ent kinds  of  banking  the  Federal  Reserve  Act  has  apparently  had  the 
opposite  effect.  Rivalry  between  state  and  national  banks  is  keener 
than  ever  and  it  springs  from  the  difference  in  the  laws  under  which 
they  are  organized.  Efforts  to  have  state  laws  modified  so  as  to 
remove  all  doubt  of  their  contravention  by  the  application  of  section 
II  (k)  of  the  Reserve  Act  have  intensified  the  condition.  The  state 
banks  think  they  have  more  reason  for  not  joining  the  system  now  than 
they  had  a  year  ago. 


VIII 
CO-OPERATIVE  BANKING  AGENCIES 

Introduction 

In  previous  chapters  of  this  volume  we  have  been  considering 
banking  in  its  relation  to  the  world  of  business,  the  national  and  state 
banking  associations  being  devoted  almost  exclusively  to  serving  the 
interests  of  men  engaged  in  the  management  of  the  larger  commercial 
and  industrial  enterprises.  There  remain  to  be  considered  the  bank- 
ing requirements  of  and  the  banking  facilities  that  have  been  pro- 
vided for  those  classes  of  people  whose  incomes  are  small  or  who 
work  for  wages  and  who  use  the  funds  borrowed  mainly  for  con- 
sumptive rather  than  productive  purposes.  We  have  already  seen 
that  loans  on  collateral  may  be  used  for  consumption  puiposes,  and 
that  such  loans  are  often  extended  by  the  regularly  organized  banks. 
We  are  here  concerned,  however,  with  loans  to  a  class  of  people  who 
cannot  deposit  as  security  collateral  that  is  acceptable  to  banks — 
those  who  wish  to  borrow  petty  sums  with  which  to  meet  temporary 
needs  or  emergencies. 

The  question  of  the  rate  of  interest  that  should  be  paid  on  con- 
sumptive loans  is  practically  as  old  as  recorded  history.  The  Bible 
condemns  all  interest  as  being  usury,  and  therefore  unjust.  The 
biblical  law  came  to  be  incorporated  into  the  civil  code,  and  it  was 
not  until  the  beginning  of  the  modern  era  that  interest  was  legalized. 
The  philosophy  underlying  this  prohibition  of  interest  appears  to  have 
been  either  a  sympathetic  regard  for  the  poor  or  a  recognition  of 
the  economic  impossibility  of  their  paying  interest.  Funds  were 
borrowed  at  the  time  almost  exclusively  for  consumptive  purposes — 
virtually  to  prevent  starvation— and  such  loans  were  necessarily 
almost  in  the  nature  of  almsgiving.  At  any  rate,  to  exact  interest 
from  a  poverty-stricken  peasant  class  seemed  to  violate  every  prin- 
ciple of  common  humanity.  With  the  development  of  the  borrowing 
habit  by  the  capitalist  class,  however,  the  situation  appeared  in  a 
very  different  light.  When  a  borrower  devoted  the  funds  procured 
to  productive  industry,  it  was  readily  seen  that  he  was  making  a 
gainful  use  of  the  loan  and  was  therefore  able  to  pay  back  the  prin- 
cipal with  a  bonus,  and  also  that  the  lender  was  foregoing  a  like 

338 


CO-OPERATIVE  BANKING  AGENCIES  339 

gainful  use  of  the  capital,  and  was  therefore  entitled  to  a  recompense. 
Gradually  loaning  at  interest  became  uni\ersally  legalized;  but  even 
to  the  present  day  we  find  survivals  of  the  old  idea  in  the  usury 
laws  of  the  various  states,  which  prohibit  exorbitant  interest  rates, 
that  is,  above  a  certain  prescribed  maximum. 

In  our  cities  an  extensive  and  enormously  prosperous  business  has 
been  develo])ed  in  the  making  of  loans  to  the  poorer  classes  on  the 
security  of  their  current  wages.  While  the  risks  in  such  a  loaning 
business  are  great,  the  rates  charged  are  often  far  higher  than  war- 
ranted by  the  conditions;  and  the  poor  have  in  fact  ])een  preyed  u[)on 
by  a  class  of  dishonest  dealers,  who  ha\e  taken  advantage  of  the  press- 
ing financial  needs  and  the  ignorance  of  borrowers. 

In  recent  years  many  institutions  ha\e  been  developed  to  remedy 
the  evil  of  the  loan  sharks  and  to  furnish  funds  to  consumptive  bor- 
rowers at  lower  rates.  In  particular,  banks  organized  on  co-operative 
principles  possess  many  advantages  in  this  connection.  Such  insti- 
tutions have  long  played  an  important  role  in  other  countries,  but  it 
is  only  within  recent  years  that  they  have  been  established  in  -the 
United  States;  indeed,  their  development  here  can  be  said  tj)  have 
merely  begun. 

One  form  of  co-operative  institution,  however — the  building  and 
loan  association — is  well  developed  in  this  country,  and  has  long 
played  an  important  part  in  accumulating  the  funds  for  home-building. 
Looked  at  from  one  point  of  view  the  building  and  loan  association 
is  a  savings  bank  and  its  treatment  might  therefore  have  been  reserved 
for  the  following  chapter.  It  has  seemed  best,  however,  to  include 
it  here  with  the  other  forms  of  co-operative  banking  agencies;  for  in 
addition  to  being  a  co-operative  institution  its  purpose  is  to  save  for 
consumptive  rather  than  productive  ends. 

A.     The  Loan  Sharks 

169.    THE  SALARY  LOAN  BUSINESS  IN  NEW  YORK  CITV 

By  CLARENCE  W.  WASSAM 

A  loan  on  salar)-  is  the  advance  of  money  by  an  individual  or 
corjwration  to  a  salaried  cnij)loyee.  The  security-  given  by  the 
employee  who  obtains  the  money  is  an  assignment  of  his  wages  due 

'Adapted  from  The  Salary  Loan  Hiisincss  in  \iil'  York  City,  pp.  21-41. 
(Publicalion  of  tlic  Russell  Sa^e  Foundation.  Copyright,  The  Charity  Organiza- 
tion Society  of  the  City  of  New  York,  1908.) 


340  PRINCIPLES  OV  MONEY  AND  BANKING 

or  lo  become  due.  This  transaction  has  been  called  a  loan  without 
security,  which  in  reality  it  is.  In  practice,  however,  in  the  majority 
of  cases  the  lender  is  in  a  secure  position;  he  loans  only  to  individuals 
who  have  steady  employment,  and  whose  employers  will  recognize  an 
assignment.  The  loans  are  of  small  amount,  varying  from  $io  to 
$35,  and  the  borrower  must  have  a  weekly  wage  sufficient  to  pay  the 
full  amount  in  case  the  company  is  required  to  pay  the  lender.  The 
attitude  of  diflferent  employers  toward  the  assignment  of  the  wages 
of  their  employees  is  a  matter  of  careful  record  on  the  part  of  the 
salary  money  lenders.  If  an  employer  will  discharge  a  man  when  it 
is  known  to  him  that  he  has  assigned  his  salary,  the  employees  of  this 
firm  are  considered  good  risks.  It  may  appear  to  be  a  contradiction 
of  terms  that  a  man  in  danger  of  losing  his  position  will  be  a  better 
risk  than  one  who  is  not  in  such  danger,  but  the  explanation  is  simple. 
One  of  the  chief  points  which  all  loan  companies  emphasize  is  that 
the  transaction  will  be  perfectly  confidential,  and  that  the  employer 
shall  never  know  of  the  assignment.  When  the  employee  has  broken 
the  rule  of  the  company  and  made  the  assignment  of  his  wages,  then 
it  is  that  the  loan  company  threatens  to  notify  the  employer,  and 
rather  than  lose  a  good  position  the  employee  will  pay  the  charges 
demanded  by  the  loan  company.  From  a  legal  point  of  view  this 
threat  is  of  little  value,  but  in  practice  it  is  most  effective. 

The  loan  companies  do  not  rely  entirely  upon  intimidation  and 
fear  in  the  collection  of  their  money.  They  require  the  borrower  to 
sign  a  bill  of  sale  of  his  salary'  or  authorize  an  attorney  to  do  the  same 
for  him.  In  case  the  matter  is  brought  before  a  court  it  is  contended 
by  the  loan  company  that  the  transaction  is  not  a  loan  of  money  but 
a  purchase  of  salary,  like  the  purchase  of  any  other  commodity;  and 
since  the  transaction  is  one  of  purchase  and  sale  there  can  be  no  claim 
of  usury.  In  the  majority  of  cases  the  loan  company  demands  in 
addition  to  the  assignment  of  the  salary  of  the  borrower  the  assign- 
ment of  from  one  to  three  other  employees.  These  assigrmients 
become  effective  if  the  borrower  fails  to  meet  his  obligations. 

A  few  illustrations  will  aid  in  the  understanding  of  the  transaction. 
A  salaried  man  is  in  need  of  money.  He  has  a  good  position  and 
receives  fair  wages,  but  an  emergency  arises  in  which  his  income  will 
not  meet  the  demands  made  upon  him  and  he  is  compelled  to  secure 
a  small  loan.  He  calls  at  a  loan  broker's  oflSce  and  applies  for  a  loan. 
If  his  references  are  good  and  the  firm  by  which  he  is  employed  has 
a  rule  prohibiting  any  employee  from  making  an  assignment  of  his 


CO-OPERATIVE  BANKING  AGENCIES  341 

wages  under  penalty  of  discharge,  the  money  is  secured  without  diffi- 
culty. The  necessary  papers  are  signed,  by  which  he  agrees  to  pay 
a  certain  amount  each  week  until  the  debt  is  canceled.  If  he  meets 
the  payments  promptly,  the  transaction  is  closed,  the  borrower 
receives  a  receipt  in  full  and  his  signature  from  the  papers  signed, 
and  the  documents  themselves  are  destroyed.  In  case  of  failure  to 
meet  a  payment  when  due,  he  is  at  once  notified  that  his  part  of  the 
agreement  has  not  been  fulfilled,  that  the  promise  of  secrecy  is  no 
longer  binding,  and  unless  the  matter  is  settled  at  once  his  employer 
will  be  notified.  The  danger  of  losing  a  good  posit  ion  is  generally  suffi- 
cient to  force  the  payment  of  whatever  the  loan  company  demands. 
When  the  borrower  is  employed  by  a  private  concern  whose  attitude 
toward  an  assignment  of  the  wages  of  an  employee  is  unknown,  or 
when  the  loan  company  for  any  reason  questions  the  security  offered 
by  the  borrower,  from  one  to  three  endorsers  are  required  as  additional 
security.  Should  the  investigation  of  the  applicant  and  the  endorsers 
prove  favorable,  the  money  is  advanced.  In  this  way  the  wages  of 
several  different  employees  become  surety  for  the  loan. 

.If  for  any  reason  the  borrower  defaults  in  his  payments,  within 
three  days  a  notice  of  assignment  is  filed  upon  the  employer  for  each 
of  the  assignees  at  the  same  time  and  for  the  same  amount. 

The  reasons  assigned  for  loans  of  this  kind  are  numerous.  It  is 
the  opinion  of  a  prominent  money  lender  in  the  city  that  about 
75  per  cent  of  the  individuals  who  borrow  from  loan  companies  are 
men  witli  families  who  are  temporarily  in  need  and  are  helped  out  of 
difficulty  by  a  loan,  and  that  25  per  cent  are  men  who  coukl  get  ak)ng 
better  without  the  money,  as  it  is  spent  in  gambling,  intemperance 
and  vice.  The  managers  of  five  different  loan  offices  expressed  the 
opinion  that  a  majority  of  persons  who  patronize  their  offices  are 
men  with  families  who  are  honest  and  industrious,  but  who  have 
met  with  some  temporary'  emergency  which  the  loan  helped  them 
to  overcome. 

Sickness  or  death  in  the  home  is  perhaps  the  most  common  cause 
of  temporary  need.  Another  common  cause  is  found  in  the  custom 
of  demanding  rentals  in  advance.  This,  coui)k'(i  wilh  the  exj)cnse  of 
moving,  frequently  exceeds  the  savings  of  a  household.  It  api)ears, 
also,  to  be  a  common  practice  among  clerks  and  young  employees  to 
borrow  a  small  amount  of  money  when  in  need  of  a  suit  of  clothes  or 
anything  which  requires  an  unusual  expenditure.  Life  insurance 
premiums,  interest  on  mortgages,  and  similar  obligations,  Christmas 


342  PRINCIPLES  OF  MONEY  AND  BANKING 

and  birthday  presents,  are  some  of  the  less  frequent  but  still  not 
uncommon  o])jects  for  which  money  is  secured  from  the  loan  brokers. 

It  is  cxtremeh-  difficult  to  ascertain  the  number  of  salary  loan 
offices  in  New  York  City.  Some  of  them  do  not  advertise  and  some 
advertise  under  different  names.  Thirty  different  offices,  however, 
are  known,  and  it  is  probable  that  the  whole  number  is  very  much 
larger.  Based  upon  the  minimum  number  of  offices  there  would  be 
about  $300,000  capital  invested,  which  would  make  possible  a  business 
of  $1,200,000  annually,  if  the  loans  were  made  for  an  average  of  twelve 
weeks.     This  is  believed  to  be  a  very  conservative  estimate.' 

The  number  of  persons  directly  influenced  by  the  loan  business 
includes  not  only  the  employee  but  his  family  as  well.  Assuming  that 
the  average  office  has  one  thousand  customers,  there  would  be  thirty 
thousand  employees  who  are  making  payments  ever}'  pay  day  to  the 
loan  companies.  There  are  some  duplicates  included  in  this  number, 
but  they  are  more  than  overbalanced  by  the  conservative  estimate  of 
the  number  of  ofiices.  Inasmuch  as  a  large  majority  of  those  who 
borrow  are  married  men  with  families,  it  is  reasonable  to  conclude  that 
at  least  one  hundred  thousand  individuals  in  New  York  City  are 
directly  affected  by  the  salary  loan  business. 

The  nature  of  the  salary  loan  business  necessitates  a  higher  rate 
of  interest  than  that  charged  by  the  ordinary  banking  corporation. 
In  every  state  which  has  seriously  attempted  to  regulate  and  not  pro- 
hibit loans  on  salary  the  legal  rate  has  ranged  from  i|  to  3  per  cent 
per  month,  depending  upon  the  amount  of  the  loan.  It  appears  from 
the  following  data,  however,  that  the  rates  charged  by  these  com- 
panies are  excessive  and  that  the  profits  in  the  business  are  enormous. 

Many  instances  could  be  cited  to  give  an  idea  of  the  profitableness 
of  the  salary  loan  business.  The  owner  of  a  prominent  office  in  the 
city  recently  offered  to  guarantee  a  young  man  $10,000  net  profit  per 
year  if  he  would  invest  $8,000  in  an  ofiice.  He  said  he  was  almost 
certain  that  the  returns  would  be  much  larger.  A  careful  examina- 
tion of  the  books  of  one  of  the  ofl&ces  in  the  city  showed  that  in  one 
month  a  net  gain  of  $541,00  was  realized  upon  loans  aggregating 
$1,889.00,  a  clear  profit  of  28.64  per  cent  in  one  month.  Based  on 
this  rate  of  profit  the  annual  net  income  from  an  ofiice  with  $10,000 
capital  would  be  $34,368.  An  owner  of  two  large  ofiices  in  the  city 
is  authority  for  the  statement  that  a  friend  of  his  began  business  in 

•  The  number  of  loan  offices  as  well  as  the  volume  of  business  has  been  sub- 
stantially reduced  in  the  last  few  years. — Editor. 


CO-OPERATIVE  BANKING  AGENCIES 


343 


New  York  City  about  three  years  ago  with  $25,000.  Recently  he 
was  offered  $60,000  for  his  three  offices,  and  in  the  meantime  he  had 
placed  $74,000  to  his  credit  in  thel)ank,  making  $110,000 clear  profit, 
in  addition  to  his  living  exjjenses,  in  three  \ears  upon  a  cajiital  of 
$25,000.     Several  of  the  men  who  have  a  large  number  of  offices  and 


TABLE  SHOWING  TOTAL  CHARGES  EXPRESSED  IN  TERMS  OF 
INTEREST  RATE,  UPON  SELECTED  LOANS  >L\DE  BY  ONE 
REPRESENTATIVE  SALARY  LOAN  COMPANY 


AN 


Amount  of  Cashj 

Received  by  the! 

Borrower 


Payments 


Amount  of 
Kach 


When  Due 


Total 
Amount 
Paid  by 

THE 

Number       Borrower 


Amount 
Paid  in 
Excess  of 
TiiE  Amount 
or  Cash 
Received 


ANNUiVL 

Interest 
Rate 


S17.00 
21.50 
26.00 
26.00 
34.00 
34.00 
30.00 
40.00 
40.00 


Weekly 


Bi-weekly 

Weekly 

Monthly 


12 
12 
16 
12 
12 
20 

6 
12 

3 


$24  00 
30  00 
39  20 
36.00 
48.00 

53  00 

54  00 
54.00 
60.00 


$  7 

00  j 

8 

50 

13 

20 

10 

00 

14 

00 

19 

00 

15 

00 

14 

00 

20 

00 

Pcreentnse 
329 
3«(' 
3JO 
308 
329 
277 
286 
280 
300 


are  doing  a  ver>'  extensive  business  began  with  a  small  amount  of 
capital  and  have  been  in  the  business  only  a  short  period  of  time.  It 
is  the  belief  of  a  number  of  the  emi)loyees  of  D.  H.  Tolman  that  he 
began  the  business  of  loaning  money  on  salaries  a  few  years  ago  with 
practically  no  capital,  and  today  he  is  many  times  a  millionaire  with 
offices  in  all  the  principal  cities  of  the  United  States  and  Canada. 


170.    EFFORTS  AT  REMEDIATION' 
By  ARTHUR  H.  HAM 

The  evil  of  the  loan  shark  is  bad  enough  in  connection  with  the 
emergency  borrowings  of  those  in  temporary-  distress;  but  it  is  made 
worse  by  virtue  of  the  fact  that  many  of  the  victims  are  victims  of 
their  own  improvidence  and  extravagance.  This  is  shown  by  the 
fact  that  the  backbone  of  the  usur>'  l)usiness  is  furnished  by  city 
employees  and  employees  of  large  public  service  cori)orations  whose 
pa>-  is  regular  and  above  the  average,  and  whose  positions  arc  more 

■Adapted  from  "Remedial  Loans  as  Factors  in  Family  Rehabililation," 
Proceedings  of  the  Nalional  Conference  of  Charities  and  Correction,  191 1. 


344  PRINCIPLES  OF  MONEY  AND  BANKING 

or  less  permanent.  Many  of  these  men  have  no  cause  to  borrow 
except  a  fancied  need  to  which  the  loan  shark  caters  by  his  alluring 
and  misleading  advertisements.  Once  infected  with  the  borrowing 
germ,  a  man  will  often  borrow  from  every  possible  source  till  at  last 
he  gets  into  deep  water,  his  family  suffering  as  a  result  of  his  trans- 
actions and  he  himself  finally  becoming  a  veritable  slave  with  his 
entire  earning  capacity  mortgaged  for  months  to  come  to  the  loan 
shark.  Such  conditions  in  our  cities  have  brought  about  the  organi- 
zation of  remedial  loan  agencies  founded  on  three  distinct  bases:  (i) 
philanthropic  competition,  (2)  voluntary  protective  effort,  and  (3) 
money-making  desire. 

The  first  class  includes  semi-philanthropic  societies  which  have 
been  organized  by  prominent  men  desirous  only  of  improving  loaning 
conditions  and  who  are  satisfied  with  a  very  moderate  return  on 
their  investment.  An  example  is  the  Workingmen's  Loan  Association 
of  Boston,  estabhshed  in  1888  by  Robert  Treat  Paine. 

The  second  class  includes  co-operative  savings  and  loan  associa- 
tions organized  by  the  employees  of  certain  large  establishments  for 
the  purpose  of  replacing  the  loan  shark  with  an  institution  that  offers 
loans  at  reasonable  rates  and  affords  an  opportunity  to  the  workman 
to  deposit  small  portions  of  his  earnings  in  a  savings  account  which 
returns  him  an  interest  greater  than  that  paid  by  regular  savings 
institutions.  An  example  of  this  is  the  Savings  and  Loan  Association 
of  the  Celluloid  Club,  Newark. 

The  third  class  is  made  up  of  companies  formed  to  loan  money  at 
reasonable  rates  by  men  seeking  a  good  return  on  their  investment 
and  who  recognize  the  value  as  an  advertisement  of  a  plan  which, 
though  largely  money-making,  is  a  great  improvement  over  the  loan 
shark  system.  Because  of  their  effect  we  are  forced  to  include  the 
latter  class  among  remedial  loan  agencies,  yet  we  realize  they  fall  far 
short  of  the  requirements  of  the  ideal  remedial  loan  society  which  the 
Russell  Sage  Foundation  and  the  National  Federation  of  Remedial 
Loan  Associations  are  attempting  to  organize  in  ever}'  large  city  in 
the  United  States. 

Extending  financial  aid  to  applicants  is  only  one  of  the  functions 
of  the  Remedial  Loan  Society.  It  seeks  also  to  secure  adequate 
legislation  and  its  enforcement,  to  give  publicity  to  loaning  conditions 
in  its  city,  to  secure  settlements  on  an  equitable  basis  for  the  victims 
of  the  usurers,  to  discourage  ill-advised  borrowing,  to  give  helpful 
advice,  to  encourage  thrift  and  saving,  to  secure  employment  for  appli- 


CO-OPERATIVE  BANKING  AGENCIES  345 

cants  who  are  out  of  work,  to  fill  the  gap  existing  in  our  financial 
world  between  the  banks  and  the  organized  relief  societies.  By 
extending  relief  to  the  deserving  and  by  helpful  advice  the  remedial 
loan  association  aims  to  prevent  its  clients  from  starting  on  the  down- 
ward road  which  leads  to  dependence. 

The  remedial  loan  field  extends  to  all  families  who  by  force  of  cir- 
cumstances, by  improvidence,  by  bad  management,  or  by  whatever 
cause  have  fallen  below  the  somewhat  vague  line  of  normal  standard 
of  living. 

The  successful  remedial  loan  agent  must  understand  the  needs  and 
resources  of  each  applicant,  and  keeping  in  mind  the  factors  which  go 
to  make  up  a  normal  standard  must  thoroughly  investigate  the 
elements  of  each  applicant's  distress.  Unnecessar}'  borrowing  is 
discouraged,  legitimate  borrowing  is  made  inexpensive  and  a  valuable 
experience  to  the  borrower. 

171.    THE  LOAN  SHARK  CA^IPAIGN* 
By  MALCOLM  W.  DAVIS 

The  most  extensive  organization  which  is  carr\'ing  on  the  work 
of  driving  the  loan  shark  out  of  business  at  present  is  the  National 
Federation  of  Remedial  Loan  Associations,  with  which  the  Division 
of  Remedial  Loans  of  the  Russell  Sage  Foundation  co-operates  in 
gathering  information  and  in  publishing  bulletins  on  the  progress  and 
phases  of  the  work.  Founded  in  1909,  this  federation  has  grown 
until  it  embraces  thirty-one  of  the  important  cities  from  the  Atlantic 
to  the  Pacific  Coast  and  has  thirty-five  companies  in  active  operation. 
New  York,  Syracuse,  Rochester,  Buffalo,  and  Utica,  N.Y.,  Boston 
and  Worcester,  Mass.,  Providence,  R.I.,  Portland,  Me.,  Newark  and 
Paterson,  N.J.,  Washington,  D.C.,  Baltimore,  Md.,  Louisville,  Ky., 
Cleveland,  Cincinnati,  and  Youngstown,  Ohio,  Indianapolis,  Ind., 
Chicago,  111.,  St.  Louis  and  Kansas  City,  Mo.,  Detroit  and  Grand 
Rapids,  Mich.,  Minneapolis,  St.  Paul,  and  Duluth,  Minn.,  Milwaukee, 
Wis.,  Sioux  City,  la.,  San  Francisco,  Cal.,  and  Seattle,  Wash.,  are  the 
cities  already  officially  connected  by  companies,  while  in  Dallas,  Tex., 
Portland,  Ore.,  Philadeljihia,  Pa.,  Lynn,  Mass.,  and  Colorado  Springs, 
Colo.,  people  are  organizing  companies,  and  in  Jersey  City,  N.J., 
Dayton,  Ohio,  Los  Angeles  and  Oakland,  Cal.,  and  San  Antonio  and 
Houston,  Tex.,  they  are  actively  interested   and  will   undoubtedly 

•Adapted  from  "The  lx)an  Sliark  CampaiBn,"  Xrw  ]'ork  Evening  Post, 
April  II,  19 14. 


346  PRINCIPLES  OF  MONEY  AND  BANKING 

start  companies  soon.  These  companies  generally  loan  small  amounts 
of  money  on  mortgage  of  personal  proj)erty  as  security,  although  a  few 
also  accept  pledges,  endorsed  notes,  or  salaries  as  a  basis.  The  rates 
of  interest  vary  from  |  per  cent  a  month  in  a  few  cases  to  3  per 
cent  a  month,  with  varying  schedules  of  special  fees  for  investigation 
of  claims  and  registration. 

What  these  companies  have  done  toward  putting  the  loan  shark 
out  of  business  may  be  indicated  by  the  experience  of  one  of  them. 
The  Detroit  company  started  its  work  in  igo6,  after  the  passage  of 
the  Michigan  law  on  loan  agencies,  and  at  that  time  there  were  over 
twenty-five  loan  shark  companies  operating  in  the  city.  For  a  time 
no  effects  of  the  reliable  company's  activity  were  discernible.  Then 
suddenly  things  began  to  happen,  and  within  half  a  year  company  after 
company  closed  up  its  office,  until  there  remained  only  one  concern 
which  loaned  money  on  salaries,  and  which  was  not  complying  with 
the  law.  There  were  two  other  companies  which  accepted  the  legal 
limitations,  but  the  rest  were  put  out  of  business  directly  through  the 
efforts  of  the  prosecuting  attorney,  whose  first  evidence  was  furnished 
to  him  by  the  remedial  loan  company. 

A  common  practice  among  employers  has  been  to  adopt  a  rule 
discharging  all  employees  who  are  found  to  be  dealing  with  money 
lenders.  The  remedial  loan  associations  have  sought  to  and  in  many 
cases  have  succeeded  in  breaking  down  this  practice  by  making  the 
employers  see  that  they  were  doing  harm  by  turning  their  men  out 
into  the  streets  when  they  were  found  to  have  borrowed  money  with- 
out any  investigation  of  the  reasons  for  the  borrowing. 

In  addition  to  fostering  a  new  spirit  among  employers,  an  impor- 
tant part  of  the  modern  constructive  campaign  is  the  development  of 
co-operative  loan  societies  among  employees  themselves.  This  is  one 
of  the  most  effective  ways  of  dealing  with  the  problem  of  need 
for  money  in  emergencies  on  the  part  of  a  man  who  is  dependent 
on  a  salary.  A  great  deal  of  the  expense  of  an  ordinary  commercial 
company  is  avoided  in  the  employees'  associations,  for  the  men  know 
each  other  and  the  recommendation  of  a  credit  committee  is  sufficient 
warrant  for  a  loan  without  the  costly  investigation  of  personal  cases 
that  a  company  has  to  make.  The  men  themselves,  contributing  to 
the  association  and  managing  it,  feel  a  pride  in  it,  and  are  able  to  use 
it  with  dignity,  while  by  making  it  a  savings  association  as  well,  with 
an  office  in  the  company's  building  ready  at  hand  when  the  men  draw 
their  pay  envelopes,  it  can  be  made  a  powerful  influence  for  thrift. 


CO-OPF.RATIVK  HANKINCi  Ai.KNClKS  347 

172.    THE  MORRIS  I'LAX  OF  LOAXIXO  ON  PERSONAL 
RKSPOXSllilLlTV 

There  was  established  in  New  York  on  December  31,  1914,  a  bank 
under  the  name  of  the  Morris  Plan  Company  of  New  York.  The 
Morris  Plan  had  l)cen  tried  on  a  minor  scale  for  about  fifteen  years. 
The  purpose  of  the  bank  is  to  make  loans  of  small  sums  on  the  basis 
of  mere  personal  responsibility. 

It  aims  to  accommodate  the  man  of  small  income  who  has  no  bank 
account — that  is,  the  man  with  an  income  of  from  twenty  to  thirty 
dollars  a  week.  Such  a  man  when  in  need  of  a  loan  of  from  fifty  to 
one  hundred  dollars  cannot  get  one  from  any  bank  merely  on  his  note, 
even  tliough  liis  note  be  indorsed  by  one  or  more  of  his  friends.  One 
reason  is  the  smallness  of  the  amount — too  little  for  the  bank  to  bother 
with.  And  yet  this  poor  man's  note,  with  its  indorsers,  may  be  quite 
as  good  in  its  relation  to  the  amount  involved  as  the  note  of  some  much 
larger  borrower  who,  having  an  account  with  a  bank,  can  with  no 
difficulty  secure  a  loan  of  some  thousands  of  dollars.  The  man  with  a 
small  income  when  pressed  for  fifty  or  one  hundred  dollars  finds  his 
usual  recourse  to  be  the  loan  shark  or  a  lender  on  chattel  mortgages. 
A  third  recourse  which  ought  to  be  open  to  him — that  of  credit  at  a 
moderate  rate  of  interest — has  long  been  closed. 

On  the  opening  day  there  were  83  applicants  for  loans,  on  the 
second  day  more  than  100,  the  third  day  200,  the  fourth  day  between 
350  and  400,  and  on  January  11  more  than  1,000.  During  its  first 
two  months,  January  and  Februar>',  the  company  made  50c)  loans, 
aggregating  $61,780,  an  average  of  S121 .38  each.  At  the  end  of  that 
time  there  were  but  seven  delinquencies  in  weekly  payments,  only  two 
of  which  were  for  as  long  as  one  week.  Of  the  borrowers,  476  were 
men  and  ^s  women.  The  average  weekly  income  of  the  borrowers  was 
$27 .  10.  The  favorite  amount  for  loans  was  $100,  of  which  there  were 
206;   132  loans  of  $50  were  made. 

The  number  of  loans  made  by  all  the  Morris-Plan  institutions  up 
to  December  31,  19 14,  was  54,515-  The  average  amount  per  loan  was 
$123.50.  Losses  from  bad  credits  have  been  less  than  one-tenth  of 
I  per  cent.  In  less  than  2  per  cent  of  the  loans  ha\e  the  indorsers 
been  called  upon  to  pay  anything.  Profits  of  the  banks  have  been  at 
the  rate  of  7.8  j^er  cent. 

The  plan  of  making  the  loans  is  simple.     The  applicant  must 
furnish  references  as  to  his  character  and  must  give  information  as  to 
■  Adapted  from  llic  Liliniry  PiRi-sl,  May  15.  1015. 


348  PRINCIPLES  OF  MONEY  AND  BANKING 

his  income.  lie  must  have  at  least  two  indorsers  or  co-makers  of 
situation  and  income  at  least  as  good  as  his  own.  For  each  $50 
borrowed  he  agrees  to  pay  $i  a  week  for  50  weeks.  The  interest  is 
deducted  in  advance,  so  that  he  receives  but  $47.  Should  he  fail  to 
make  a  payment  on  time  he  is  fined  5  cents  and  notified  of  his  delin- 
quency. If  he  gets  a  week  behind,  his  co-makers  are  notified.  They 
may  be  relied  upon  to  see  that  he  catches  up  again  if  he  can.  Should 
he  fail  to  do  so,  the  co-makers  take  his  place  in  making  the  weekly 
payments. 

The  profits  of  a  Morris-Plan  company  are  derived,  not  only  from 
lending  its  capital,  but  also  from  lending  the  prepaid  interest,  the 
incoming  payments  and  money  corresponding  to  deposits — for  the 
plan  has  its  investment  as  well  as  its  borrowing  side. 

B.     Co-operative  Institutions 

173.    CO-OPERATIVE  CREDIT  UNIONS' 

By  ARTHUR  H.  HAM  and  LEONARD  G.  ROBINSON 

I.      HISTORICAL   SUMMARY 

The  number  of  co-operative  credit  associations  or  Credit  Unions 
now  in  existence  in  all  parts  of  the  world  has  been  estimated  to  be 
more  than  65,000,  with  a  membership  approximating  15,000,000  and 
an  annual  business  amounting  to  S7,ooo  000,000. 

Impressive  as  these  figures  are,  they  are  less  striking  than  the  eco- 
nomic and  social  results  which  this  form  of  co-operation  has  achieved 
wherever  it  has  found  a  foothold.  It  has  regenerated  and  accelerated 
agriculture,  commerce,  and  industry.  It  has  stamped  out  usur}-  and 
raised  millions  of  human  souls  from  the  depths  of  despair  to  lives  of 
hopefulness  and  service.  It  has  supplanted  shiftlessness  by  industry'; 
improvidence  by  thrift;  intemperance  by  sobriety;  selfishness  by 
neighborliness ;  individual  effort  by  concerted  action — in  fact,  has 
proved  to  be  one  of  the  most  potent  moral,  educational,  and  social 
forces  in  the  history'  of  civilization  and  in  the  enrichment  of  the  life 
of  the  common  people. 

Credit  unionism  originated  in  Germany  in  1849.  Frederick 
William  Raiffeisen  and  Franz  Hermann  Schulze-Delitzsch  were  the 
founders  of  the  two  systems  of  co-operative  credit  which  are  com- 
monly known  as  the  Raiffeisen  system  and  the  Schulze-Delitzsch 

'  Adapted  from  A  Credit  Union  Primer.  (Di\ision  of  Remedial  Loans, 
Publication  of  the  Russell  Sage  Foundation,  1914-) 


CO-OPERATIVE  BANKING  AGENCIES  349 

system,  respectively.  All  co-operative  credit,  wherever  found.  i> 
patterned  after  one  of  these  two  systems. 

It  is  estimated  that  the  total  number  of  RaitTeisen  banks  in  Ger- 
many today  is  17,000,  with  a  membership  of  1,700,000,  and  loans 
aggregating  approximately  8500,000,000.  In  191 1  the  number  of 
Schulze-Delitzsch  banks  was  1,051,  with  a  membership  of  671,589  and 
total  loans  of  $1,106,165,207. 

A  modified  form  of  the  Schulze-Delitzsch  system  was  introduced 
into  Italy  in  1866  and  the  Raiffeisen  system  in  1883.  Austria  fol- 
lowed in  1885  and  France  in  1892.  Ireland  has  today  over  200 
co-operative  banks.  In  1909  Japan  had  1,886  Credit  Unions.  They 
are  found  also  in  Russia  and  India.  Canada  founded  its  first  Credit 
Union  in  1900  and  now  has  more  than  150  organizations.  Credit 
Unions  of  various  t\T5es  are  known  to  exist  in  many  of  the  countries 
of  South  America. 

The  wedge  of  credit  unionism  was  driven  into  the  United  States 
by  the  enactment  of  the  Massachusetts  Credit  Union  Law  in  1909. 
Since  then  legislation  has  been  enacted  in  New  York,  Wisconsin, 
Texas,  Oregon,  North  Carolina,  Utah,  and  Rhode  Island. 

II.      REASONS   FOR   DEVTELOPMENT 

The  causes  of  the  demand  for  Credit  Unions  in  the  United  States 
are  not  far  to  seek.  Under  present  conditions  in  many  parts  of  the 
United  States  if  the  farmer  needs  new  machinery,  live  stock,  draft 
animals,  or  supplies  to  enable  him  to  live  until  the  time  of  returns 
from  the  harvest,  he  must  buy  upon  credit  at  tlie  dealers'  prices  or 
mortgage  his  farm.  The  absence  of  adequate  credit  facilities  in  some 
sections  is  one  of  the  greatest  drawbacks  to  the  development  of  the 
land. 

The  need  of  better  credit  facilities  for  the  small  tradesman  to 
enal)le  him  to  conduct  his  business  more  efficiently  and  for  tlie  wage- 
earner  when  he  meets  reverses,  sickness,  or  other  urgent  need,  is  fully 
demonstrated  by  the  pernicious  activity  of  the  loan  shark.  One  has 
only  to  glance  at  the  records  of  small  loan  agencies  to  be  convinced 
that  by  far  the  greater  part  of  loans  made,  while  they  may  be  the 
indirect  result  of  improvidence,  are  due  to  wants  that  are  real  and 
pressing.  Not  only  is  small  borrowing  often  a  legitimate  and  defen- 
sible procedure  occasioned  by  emergency  needs  that  lay  a  heavy  hand 
upon  the  wage-earner,  but  it  frequently  is  a  prudent  act  commilted 
in  the  spirit  of  economy.     It  enables  a  man  to  buy  in  large  rather  than 


3SO  PRINCIPLES  or  MONEY  AND  BANKING 

small  quantities  or  for  cash  instead  of  upon  the  credit  plan,  which 
allows  the  instalment  agency  to  reaj:)  an  unconscionable  profit  at  his 
expense. 

Savings  banks,  building  and  loan  associations,  etc.,  do  not  fulfil 
the  requirements  of  the  situation,  because  they  are  not  well  adapted 
for  the  promotion  of  thrift  among  the  poor.  And  thrift  depends  upon 
something  besides  the  existence  of  a  safe  depository  for  surplus  funds. 
In  order  to  be  thrifty  many  a  man  requires  something  more  than 
agencies  to  receive  his  deposits  and  return  them  to  him,  when  needed, 
intact  with  interest:  he  requires  an  agency  which  will  make  its  hours 
of  business  conform  to  his  convenience,  which  is  conveniently  located, 
which  does  not  require  him  to  stand  in  line  for  a  long  time  awaiting 
his  turn  at  the  expense  of  his  lunch  hour  and  possibly  of  some  of  his 
employer's  time;  he  requires  an  agency  to  which  he  is  not  ashamed 
to  bring  a  dollar,  fifty  cents,  or  even  a  quarter;  an  agency  which  wall 
constantly  remind  him  of  his  resolution  to  save  and  which  will  reward 
his  thrift  by  extending  credit  to  him  upon  easy  terms  of  repayment 
secured  solely  by  his  character  and  personal  worth — credit  which  will 
enable  him  to  effect  economies  in  purchasing  and  embarking  in  produc- 
tive enterprises,  and  will  protect  him  from  the  usurer. 

This  is  the  field  of  the  Credit  Union.  By  its  proximity  and  con- 
venience it  persuades  the  man  who  has  not  been  reached  by  the  sav- 
ings bank  to  become  thrifty,  and  this  without  interfering  with  the 
growth  of  ordinary  banking  institutions;  instead,  it  actually  increases 
the  field  of  the  banks.  It  makes  the  accumulated  capital  available 
to  the  persons  who  assisted  in  its  accumulation.  It  does  not  become 
a  substitute  for  the  building  and  loan  association  or  the  remedial  loan 
society;  instead,  it  becomes  a  complement  of  these  agencies,  for  the 
basis  of  the  security  for  its  loans  is  not  collateral  but  character. 

Character  is  a  recognized  form  of  security.  Most  borrowers 
possess  such  security  and  are  entitled  to  credit  upon  this  basis,  but 
to  ascertain  the  credit  to  which  they  are  entitled  requires  a  more  or 
less  intimate  knowledge  of  their  personal  habits  and  of  their  financial 
and  domestic  situation.  Credit  Unions  are  formed  on  the  principle 
that  a  man's  best  asset  is  his  own  associates'  estimate  of  him.  Their 
advantage  is  obvious.  They  are  composed  of  a  small  homogeneous 
membership,  mutually  acquainted.  Only  those  known  to  be  honest 
and  industrious  are  admitted  to  membership,  and  loans  are  made  only 
to  such  members  as  have  a  legitimate  need  for  the  money^. 


CO-OPERATIVE  BANKING  AGENCIES  351 

ni.      PRINCIPLES   AND   ORGANIZATION 

The  main  principles  and  most  approved  form  of  organization  of 
Credit  Unions  may  be  outlined  as  follows: 

o)      FUNCTIONS   OF  A  CREDIT   UNION 

1.  It  encourages  thrift  by  providing 'a  safe,  convenieat,  and  attractive 
medium  for  the  investment  of  the  Siivings  of  its  members  through  the 
purchase  of  shares  and  the  making  of  savings  deposits. 

2.  It  promotes  industry  by  enabling  its  members  to  borrow  for  pro- 
ductive and  other  beneficial  purposes. 

3.  It  eliminates  usury  by  providing  its  members,  when  in  urgent  need, 
with  a  source  of  credit  at  reasonable  cost,  which  they  could  not  otherwise 
obtain. 

4.  It  trains  its  members  in  business  methods  and  self-government, 
endows  them  with  a  sense  of  social  responsibility,  and  educates  them  to  a 
fiUl  realization  of  the  value  of  co-operation. 

b)    BASIC   PRINCIPLES 

1.  Equality. — All  members  share  equally  in  privileges  and  ratably  in 
profits. 

2.  Democracy. — The  one-man-one-vote  principle  is  fundamental.  Kacli 
member  has  but  one  vote  irrespective  of  the  number  of  shares  he  may  hold. 

c)      WHERE   AND   BY   WHOM   ORGANIZED 

Any  number  of  persons  may  combine  to  organize  a  Credit  Union  in  a 
city,  town,  or  rural  community.  In  states  that  have  Credit  Union  legisla- 
tion a  certain  number  of  the  incorporators  must  be  citizens  of  the  Unile«l 
States  and  of  the  state.  Where  a  Credit  Union  is  organized  as  an  unin- 
corporated or  voluntary  association  this  is  not  necessary. 

d)      BASIS   OF   B£EMBERSHIP 

The  basis  of  membership  in  a  Credit  Union  must  be  some  common 
bond  or  community  of  interest.  This  may  take  a  number  of  forms.  It 
may  be  a  neighborhood.  It  may  be  common  occupation,  employment  by 
the  same  establishment,  or  membership  in  the  same  church,  club,  lodge, 
labor  union,  or  other  organization.  In  rural  communities  the  church, 
parish,  school  district,  or  lociU  grange  furnishes  a  satisfactory  foundation 
for  membership.  • 

e)      QUALIFICATIONS  FOR  MEMBERSHIP 

1.  Identification  with  the  basic  unit  upon  which  the  Credit  Union  is 
founded — the  church,  the  club,  the  business  establishment,  etc. 

2.  Good  moral  character  and  a  reputation  for  honesty,  sobriety,  and 
industry. 


352  PRINCIPLKS  OF  MONEY  AND  BANKING 

f)      CAPITAL   REQUIREMENTS 

1.  Capital  consists  of  payments  of  members  for  shares  and  of  unpaid 
dividends  credited  thereon. 

2.  There  should  be  no  limit  to  total  number  of  shares. 

3.  Limitation  upon  number  of  shares  held  by  one  person  is  wise. 

4.  Par  value  of  $5 .  00  is  desirable. 

g)      FUNDS   IN   ADDITION   TO   CAPITAL 

A  Credit  Union  may  accept  the  savings  deposits  of  its  members,  and 
may  borrow  from  members  and  others. 

Interest  on  savings  deposits  should  not  be  more  than  i  per  cent  in 
excess  of  savings  bank  rates  in  the  community. 

Borrowing  by  the  Union  is  merely  an  emergency  measure  and  should 
be  employed  only  when  absolutely  necessary  to  meet  the  credit  demands 
of  its  members. 

h)      EMPLOYMENT   OF   FUNDS 

Except  for  the  Guaranty  Fund,  which  the  law  may  require  to  be  invested 
in  a  particular  manner,  the  funds  of  a  Credit  Union  are  primarily  to  be  used 
for  the  purpose  of  making  loans  to  members.  Surplus  funds  should  be 
deposited  in  banks  or  invested  in  prime  securities. 

i)      WHO   MAY   BORROW 

All  members  in  good  standing,  except  the  Board  of  Directors,  officers, 
and  members  of  the  Credit  Committee  and  Supervisory  Committee. 

j)      PURPOSES  FOR  WHICH  LOANS  MAY  BE  GRANTED 

"It  is  essential  that  a  Credit  Union  should  loan  only  for  productive 
purposes,  purposes  that  will  effect  a  saving,  supply  an  urgent  need,  or  that 
will  otherwise  prove  of  benefit  to  the  borrower." 

k)      RATE    OF   INTEREST   ON   LOANS 

As  a  matter  of  principle  the  interest  charged  on  loans  should  be  no 
greater  than  is  required  to  pay  the  operating  cost,  a  moderate  rate  of 
interest  on  deposits,  to  provide  for  a  reasonable  reserve  or  guaranty  fund, 
and  to  pay  a  moderate  dividend  on  shares.  It  is  well  to  fix  the  maximum 
interest  rate  in  the  By-Laws.  This  rate  should  as  nearly  as  possible  approxi- 
mate the  banking  rate  of  interest.  (In  New  York  the  maximum  rate  of 
interest  that  a  Credit  Union  may  charge  is  12  per  cent  per  annum.)  Care 
should  be  taken  that  the  total  charges  upon  loans  do  not  exceed  the  maxi- 
mum allowed  by  law. 

/)      DURATION    OF   LOANS 

The  By-Laws  may  fix  a  general  maximum,  but  the  time  of  individual 
loans  should  be  fixed  by  the  Credit  Committee  with  due  regard  for  the 
nature  of  the  employment  in  which  the  members  are  engaged,  their  ability 
to  repay,  and  the  objects  for  which  loans  are  made.     A  maximum  of  one 


CO-OPERATIVE  BANKING  AGENCIES  ^53 

year  should  be  suflicient,  even  though  il  may  be  necessary  at  the  expiration 
of  that  time  to  renew  a  portion  of  the  loan. 

Loans  should  be  repaid  in  weekly  or  monthly  instalments  or  in  a  single 
sum.     This  is  to  be  determined  in  each  instance  by  the  Credit  Committee. 

m)      SECURITY    FOR    LOANS 

Ordinarily  the  security  that  a  Credit  Union  demands  for  loans  is  the 
promissory  note  of  the  borrower  with  one  or  more  endorsements,  supple- 
mented by  a  lien  upon  the  borrower's  shares  and  deposits  in  the  Credit 
Union.  The  requirement  of  endorsements  may  be  waived  in  some  cases 
if  the  loan  is  for  a  small  amount.  Large  loans  may  also  be  made  to  mem- 
bers upon  security  of  mortgage  of  real  or  personal  property,  but  unless  the 
Credit  Union  has  an  abundance  of  funds,  preference  should  be  given  to  the 
smaller  loans. 

As  a  rule  members  only  should  be  accepted  as  endorsers.  In  e.xccp- 
tional  cases  non-members  may  be  permitted  to  endorse  for  members.  In 
either  case  the  endorsers  must  be  acceptable  to  the  Credit  Committee. 
The  Credit  Committee  may,  if  it  deems  it  necessar>%  require  additional 
security  upon  any  loan  in  the  form  of  additional  endorsements,  a  mortgage, 
or  other  collateral. 

174.    THE  BLESSINGS  OF  CO-OPERATIVE  BANKS' 
By  henry  W.  WOLFF 

Apart  from  the  great  gains  on  the  economic  side  there  are  other 
important  considerations.  Co-operation  has  its  moral,  educating  side 
as  well,  more  beneficent  than  the  economic.  The  training  of  this 
co-operative  power  has  succeeded  where  other  educating  methods  have 
failed,  making  the  drunkard  sober,  the  spendthrift  saving,  Uie  ne'er- 
do-well  well  conducted,  turning  the  illiterate  into  a  penman.  What 
an  opportunity  is  there  here  for  ministers  of  religion,  for  temperance 
advocates,  for  philanthropists,  for  all  who  have  the  people's  moral 
welfare  at  heart! 

Only  we  should  do  well  to  take  to  heart  the  teaching  which  we 
owe  to  the  experience  of  People's  Banks  abroad,  and  ground  our  own 
institutions  absolutely  on  self-helj),  the  more  thorough  the  better. 
Every  dallying  with  greed,  ever>'  yielding  to  the  spirit  of  patronage, 
foreign  experience  has  shown,  adds  a  toe  of  clay  to  the  huge  hra/.en 
Colossus,  and  thereby  threatens  to  overthrow  it  in  spite  oi  its  size. 
And  the  thing  must  grow  from  out  of  its  own  self,  from  the  bottom 
to  the  top.     Committees  and  boards  can  do  nothing.     Large  schemes 

'  Adapted  from  People's  Banks,  p.  260.     (Longmans,  Green,  &  Co.,  189.^.) 


354  PRINCIPLES  OF  MONEY  AND  BANKING 

worked  by  public  bodies  are  as  much  out  of  place.  The  workingman 
and  the  farmer  must  become  "  the  instruments  of  their  own  emanci- 
pation." None  of  the  systems  that  have  succeeded  abroad  have  been 
organized  from  above.  They  have  all  risen  from  below,  built  up  by 
local  association  which,  in  submission  to  the  advice  pressed  upon  them 
by  Signor  Luzzatti,  have  studied  to  keep  themselves  independent  of 
outside  influence,  self-contained,  yet  firmly  connected  among  them- 
selves by  a  bond  of  union — independti  semper,  isolali  mail  Nowhere, 
moreover,  has  this  work  been  "good  fairy"  work.  Every  shilling's 
worth  of  success  has  been  purchased  by  unremitting  application,  by 
economy,  gratuitous  labor  (so  far  as  gratuitous  labor  was  possible), 
zeal,  and  caution.  And  experience  has  shown  that  it  is  not  otherwise 
to  be  obtained.  There  may  be  hindrances,  and  progress  may  at  first 
appear  slow.  But  among  ourselves  the  work  is  likely  to  succeed,  as 
it  has  succeeded  abroad,  under  the  principle  of  that  apt  motto  chosen 
as  a  watchword  for  the  movement  by  one  of  its  best  leaders,  M.  Leon 
d'Adrimont:  "Vouloir — voila  le  grand  mot  de  las  cooperation,  sa 
raison  d'etre,  la  garantie  de  son  succes." 


C.     Building  and  Loan  Associations 

175.    THE  BUILDING  AND  LOAN  MOVEMENT  IN  THE 
UNITED  STATES^ 

By  JAMES  M.  McKAY 

BuUding  and  Loan  Associations  had  their  origin  in  England  about 
one  hundred  years  ago.  The  original  association  was  nothing  more 
or  less  than  a  home-builder's  club,  where  each  man  paid  into  the  com- 
mon treasury  a  certain  sum  per  month.  The  aim  was  to  secure  enough 
members  to  make  the  monthly  payments  aggregate  a  sum  sufficient  to 
build  a  modest  home  for  one  member.  For  instance,  if  the  club  had 
a  hundred  members  and  each  member  paid  the  equivalent  of  $10  per 
month,  it  would  bring  into  the  treasury  a  total  sum  of  $1,000  monthly. 
This  money  would  be  allotted  to  one  member  after  another  for  the 
purpose  of  buying  homes,  and  the  society  would  take  a  mortgage  on 
the  home  so  procured  to  secure  the  future  payments,  each  member 
continuing  to  pay  until  all  had  been  supplied  with  homes.     The  object 

'Adapted  from  "The  Building  and  Loan  Movement  in  the  United  States," 
Commercial  and  Financial  Chronicle,  Bankers'  Convention  Supplement,  1906-11, 
pp.  213-15. 


CO-OPERATIVE  BANKING  AGENCIES  .:;55 

oi  the  club  havinj^  been  accomplished,  the  association  would  dissolve 
and  cease  to  exist. 

At  a  very  early  period  in  the  liistor>-  of  these  associations  the  idea 
of  shares  was  introduced.  By  means  of  tliese  the  man  who  wanted 
to  invest  more  money,  and  thereby  be  enabled  to  build  a  better  home 
than  his  fellow-members,  could  be  accommodated.  Thus  if  the  ordi- 
nary fund  to  be  allotted  for  building  purposes  was  $i,ooo,  a  member 
could,  by  doubling  his  payment,  receive  an  advancement  of  $2,000 
and  have  his  payments  cease  at  the  same  time  as  those  of  his  fellow- 
members.  Or  by  increasing  his  payments  50  per  cent,  he  could 
receive  $1,500  to  build  his  house,  and  other  sums  in  like  manner,  the 
amount  of  money  he  could  borrow  from  tlie  society  depending  on  the 
number  of  shares  subscribed  for.  The  face  value  of  the  shares  would, 
of  course,  vary  in  different  associations.  In  the  eastern  part  of  the 
United  States,  especially  in  Pennsylvania,  shares  of  the  face  value  of 
$200  each  have  always  been  the  rule,  while  west  of  the  Alleghenies 
$100  shares  are  common.  In  the  matter  of  shares  the  Building  and 
Loan  Associations  are  directly  opposed  to  tlie  Mutual  Savings  Banks. 
These  latter  have  no  capital  stock  at  all,  while  in  the  former,  as  a  rule, 
there  is  nothing  but  capital  stock,  and  the  person  who  places  his 
money  in  a  Building  and  Loan  Association  does  so  in  the  payment 
of  one  or  more  of  its  shares  of  stock.  Whenever  his  payments,  with 
his  share  of  the  profits,  make  his  stock  worth  its  face  or  par  value,  the 
shares  are  said  to  be  matured. 

It  will  be  seen  from  tlie  very  nature  of  the  organization  that 
regularity  of  payment  for  a  series  of  years  must,  in  some  way,  be 
secured,  and  in  order  to  secure  such  regularity,  a  certain  penalty  or 
fine  was  assessed  against  members  who  became  delinquent.  The 
power  of  assessing  fines  was  at  first  somewhat  abused,  but  tlie  present 
tendency  is  toward  their  gradual  ehmination  altogether  in  some  slates. 
It  would  seem  that  regularity  of  payments  might  be  accomplished 
better  by  adding  an  extra  profit  to  tlie  man  who  persists  rather  than 
by  withholding  part  of  the  profits  from  the  one  who  does  not  persist. 

In  the  early  associations  there  were  various  modes  of  determining 
who  should  have  the  right  to  borrow  from  the  society.  Practically 
all  the  members  wanted  to  build  and  would  be  willing  to  pay  tlie  cus- 
tomary rate  of  interest  for  tlie  funds,  and  there  were  always  some 
who  would  be  willing  to  pay  more;  hence  the  method  which  finally 
obtained  tlie  most  favor  was  to  put  the  money  up  at  auction  at  the 
regular  monthly  meetings  of  the  society  and  let  the  one  who  would 


356  PRINCU'LKS  UF  MONEY  A.ND  JJAXKING 

pay  the  most  for  the  funds  have  the  use  of  them.  The  amount  that 
any  member  hid  in  excess  of  legal  interest  was  called  a  premium,  and 
as  the  premium  went  into  the  common  fund  and  inured  to  the  benefit 
of  all  the  members,  the  legality  of  the  i)remium  has  almost  universally 
been  ui)hcld  by  the  courts.  In  theory  this  was  a  fair  and  reasonable 
way  to  determine  who  should  take  precedence  in  the  right  to  borrow, 
but  it  cannot  be  denied  that  premiums,  like  fines,  became  the  subject 
of  abuse  and  worked  a  hardship  in  many  cases.  The  national  asso- 
ciations that  exploited  the  country  from  fifteen  to  twenty  years  ago 
seized  on  the  fines  and  premiums  as  two  important  features  of  their 
system  and  made  them  the  means  of  mulcting  thousands  of  individuals 
throughout  the  country.  Premiums,  I  am  glad  to  say,  are,  like  fines, 
a  vanishing  quantity.  In  principle  there  is  no  reason  why  a  Building 
and  Loan  Association  should  charge  either  more  or  less  for  its  money 
than  other  money-lending  institutions  are  charging  in  the  same  com- 
munity at  the  same  time. 

The  payment  of  interest  on  the  money  advanced  for  home- 
building,  the  premium  bid  by  members  over  and  above  the  legal  rate 
of  interest,  and  the  fines  assessed  against  delinquents  constituted  from 
the  very  first  a  handsome  source  of  profit  to  these  associations;  hence 
early  in  their  history  there  were  inducements  to  people  to  become 
members,  not  only  for  the  purpose  of  acquiring  homes,  but  also  on 
account  of  the  profits  that  accrued;  and  thus  arose  the  two  classes 
of  members,  depositors  and  borrowers,  which  still  exist  in  every 
healthy,  successful  association.  The  introduction  of  the  depositing 
member  was  in  no  sense  a  departure  from  the  original  purpose  of  the 
association,  but  was  rather  an  additional  means  of  securing  the  same 
end,  as  the  depositing  member  paid  into  the  common  treasurv^  the 
same  amount  in  proportion  to  his  shares  that  the  would-be  borrower 
paid,  thus  increasing  the  amount  of  funds  to  be  allotted  to  home- 
builders  and  making  it  easier  and  speedier  for  them  to  get  their  homes. 
The  investing  or  depositing  member  has  always  been  an  important 
factor  in  these  associations,  and  in  our  crowded  industrial  communities 
today  the  chief  problem  of  many  associations  is  to  attract  enough 
depositing  members  to  supply  the  demand  for  loans.  In  order  to 
attract  depositing  members  certain  privileges  are  allowed  in  the  way 
of  withdrawal  of  shares  before  they  mature,  but  while  the  depositor 
is  a  member  he  pays  regularly  on  his  shares. 

In  the  early  associations  it  will  be  seen  that  as  soon  as  the  last  man 
was  provided  with  the  funds  to  build  his  home  the  object  of  the  club 


CO-01'i:i>L\Tl\  E  BANKING  AGENCIES  357 

had  been  accomplished  and  the  association  was  ready  to  disband. 
In  like  manner,  after  the  introduction  of  the  depositing  member,  the 
association  ran  a  certain  course  and  then  would  wind  up  its  affairs, 
the  investors  taking  their  shares  in  cash,  while  the  borrowers  had  their 
mortgages  released  and  their  homes  freed  from  debt.  These  were 
called  terminating  societies,  because  in  a  certain  definite  sense  their 
affairs  were  terminated.  It  was  often  found,  however,  that  after  the 
original  association  was  started  others  in  the  community  wished  to 
become  members  at  a  later  date.  Originally  this  could  not  be  done, 
and  the  only  recourse  was  to  form  a  new  association;  but  as  this  was 
cumbersome  and  expensive,  it  was  not  long  before  associations  were 
formed  which  allowed  members  to  join  at  stated  internals,  these  inter- 
vals being  sometimes  a  year  apart,  sometimes  six  months,  and  some- 
times three  months,  according  to  the  number  of  new  members  that 
could  be  secured.  These  were  called  serial  associations,  and  each 
group  of  members  constituted  a  series.  Each  series  was  in  reality  a 
terminating  association,  having  its  loans  matured,  the  borrowers 
having  their  mortgages  canceled,  and  the  investing  members  re- 
ceiving the  value  of  their  shares  in  cash.  The  serial  association  had 
many  advantages  over  the  terminating  society;  it  became  more  of  a 
feature  of  the  community,  better  methods  of  accounting  were  intro- 
duced, and  its  officers  became  more  experienced  and,  consequently, 
more  competent. 

About  the  year  1870  in  the  city  of  Dayton,  Ohio,  there  appeared 
a  modification  of  the  serial  plan,  which  has  since  become  known  as  the 
Dayton  or  permanent  plan.  In  the  serial  association  the  man  who 
wanted  to  join  at  any  time  between  the  regular  dates  for  opening  a 
series  must  either  wait  until  the  next  series  was  opened  or  he  must 
pay  back  dues  from  the  time  the  last  series  was  opened.  This  was 
not  always  convenient  or  advisable,  and  the  permanent  plan  allowed 
a  person  to  become  a  member  at  any  time  and  take  as  many  shares 
of  stock  as  he  would.  Each  member  could  thus  mature  his  own 
shares  independently  of  anybody  else,  and  each  borrower  could  like- 
wise pay  off  his  own  debt  in  the  same  way.  Fines  and  premiums  were 
reduced;  more  liberal  provisions  for  withdrawals  were  made  and 
members  were  permitted  to  retire  at  any  lime,  taking  their  share  of 
the  net  profit  with  them.  The  liberality  of  this  plan  appealed  to  the 
general  public,  and  it  has  superse4ed  the  terminating  and  the  serial 
plans  almost  entirely  in  Ohio,  and  many  of  its  features  are  being 
adopted  in  other  states.     It  is  still  a  battle  royal  whether  the  serial 


3S8  PRINCIPLES  OF  MONEY  AND  HANKING 

or  permanent  plan  is  the  better,  and  arguments  on  this  point  occur 
at  practically  every  meeting  of  the  United  States  League  of  Local 
Building  and  Loan  Associations.  It  is  worthy  of  note,  however,  that 
while  many  associations  have  changed  from  the  serial  to  the  perma- 
nent plan,  the  writer  has  yet  to  learn  of  one  that  has  changed  from  the 
permanent  to  the  serial. 

In  every  association,  whether  terminating,  serial,  or  permanent, 
at  certain  stated  intervals  the  profits  of  the  business  are  ascertained. 
In  the  older  associations  it  was  the  aim  to  keep  these  profits  in  a  com- 
mon fund  until  the  time  for  final  dissolution  of  the  society.  Any 
losses  that  occurred  were  paid  out  of  these  accumulated  profits,  and 
the  payments  of  the  members  were  continued  until  the  amount  of 
such  losses  was  made  up  to  the  society  again.  At  a  later  date,  and 
largely  for  the  purpose  of  accommodating  withdrawing  members,  it 
became  the  custom  to  apportion  the  profits  more  or  less  fully  among 
the  members  as  a  dividend.  At  first  these  dividends  were  usually 
declared  annually,  but  now  semiannual  dividends  have  become  the 
almost  universal  rule.  In  the  terminating  societies,  however,  a  part 
of  the  profits  is  still  withheld  until  final  dissolution  in  order  to  safe- 
guard against  loss.  Likewise  in  most  serial  associations  the  profits 
of  each  series  are  partly  withheld  until  the  series  mature.  In  the 
permanent  association,  however,  the  society  is  secured  against  loss  by 
means  of  a  reserve  fund,  which  is  now  obligatory  in  many  states. 
Each  association  is  required  to  lay  aside  a  certain  percentage  of 
its  net  profits  each  year  for  this  fund  and  the  fund  can  be  used 
for  the  payment  of  losses  only.  In  this  particular  the  associations 
are  in  line  with  the  Mutual  Savings  Banks  of  New  England  and 
the  East. 

These  associations  form  an  important  factor  in  the  savings  busi- 
ness of  the  country.  They  not  only  afford  opportunity  for  the  saving 
of  small  sums  at  regular  intervals,  but  they  enforce  the  saving  of  such 
sums  as  far  as  it  is  possible  to  do  so.  From  a  very  modest  beginning 
some  eighty  years  ago  their  business  has  increased  until  now,  accord- 
ing to  the  best  information  obtainable,  their  combined  resources  aggre- 
gate $850,000,000.  Pennsylvania  leads  the  list,  both  in  the  number 
of  associations  and  in  the  amount  of  resources,  with  Ohio  as  a  close 
second.  Wherever  there  is  a  large  class  of  wage-earners  there  is  a 
good  field  for  these  institutions.  An  investigation  of  certain  typical 
associations  by  the  Department  of  Labor  at  Washington,  some  eight 


CO-OI'KRATIVI-:  HAXKIXG  AGKNX"IES  359 

years  ago,  developed  the  fact  that  fully  70  per  cent  of  the  membership 
is  made  up  of  working  people.  Hence  we  find  them  not  only  in  the 
steel  and  iron  mills  of  Pennsylvania,  hut  also  in  the  factor>'  towns  of 
Massachusetts,  the  cotton-spinning  districts  of  the  South,  and  the 
growing  cities  of  the  Great  Northwest.  In  enabling  people  to  provide 
homes  for  themselves  these  associations  are  rendering  a  service  at 
once  unique  and  invaluable.  There  is  nothing  that  gives  the  average 
man  or  >voman  quite  so  much  satisfaction  as  the  possession  of  a  few 
square  rods  of  Mother  Earth. 

Wage-earning  people  are  accustomed  to  pay  rent,  and  it  is  not 
difficult  for  them  to  add  a  few  dollars  to  the  monthly  rental  and  ajiply 
it  on  a  home.  Loans  are  made  by  the  associations  up  to  about  two- 
thirds  of  the  value  of  the  property  loaned  upon,  and  such  loans  are 
usually  repayable  at  the  rate  of  one  dollar  per  month  on  each  hundred 
dollars  borrowed,  with  the  privilege  to  the  borrower  to  pay  more  at 
any  time.  If  the  borrower  should  sell  his  property,  the  association 
will,  as  a  rule,  accept  payment  of  the  balance  due  and  release  the 
mortgage.  If  he  does  not  sell,  his  regular  payments  will  in  time 
extinguish  the  debt.  Paying  a  debt  in  instalments  is  like  attacking 
an  army  in  detail;  you  conquer  one  instalment  after  another  until 
the  whole  debt  is  annihilated.  On  account  of  the  great  amount  of 
clerical  work  involved,  this  form  of  loan  has  never  found  favor  with 
banks  and  trust  companies,  but  it  does  find  favor  with  the  wage- 
earning  public.  As  a  rule,  the  borrowers  pay  more  than  the  required 
payments.  Our  own  association  makes  a  loan  which  allows  the 
borrower  ten  years'  time  in  which  to  pay  his  mortgage  ofT,  but  the 
average  duration  of  these  loans  with  us  is  but  little  more  than 
five  years. 

The  Building  and  Loan  Associations  are  managed  by  the  members 
themselves,  who  convene  at  their  annual  meeting,  choose  their  Board 
of  Directors,  listen  to  reports  of  the  officers,  and  amend  their  own 
regulations  when  necessary.  In  this  way  a  certain  amount  of  business 
training  is  had  which  is  not  without  its  value.  It  has  long  been 
recognized  by  social  workers  that  one  cannot  directly  help  people 
upward.  All  that  can  be  done  in  such  cases  is  to  provide  a  way  in 
which  people  can  help  themselves.  The  writer  knows  of  no  agency 
that  furnishes  to  wage-earning  peojile  an  opportunity  for  self-help 
equal  to  that  afforded  by  a  well-regulated  Building  and  Loan  Asso- 
ciation. 


360  PRINCIPLES  or  MONEY  AND  HANKING 

176.    LOCAL  VERSUS  NATIONAL  ASSOCIATIONS' 
By  SEYMOUR  DEXTER 

There  are  two  kinds  of  building  and  loan  associations — the  local 
and  the  national.  There  is  a  wide  difference  in  their  character,  how- 
ever, and  the  advantages  lie  altogether  with  the  former.  While  the 
national  associations  have  assumed  the  name  of  the  true  building  and 
loan  association,  they  are  no  more  entitled  to  use  it  as  descriptive  of 
their  business  than  a  western  farm  mortgage  and  trust  company  or 
an  investment  and  loan  company.  The  name  assumed  is  a  misnomer 
except  the  word  "national."  While  they  have  assumed  some  of  the 
methods  of  the  true  building  and  loan  associations,  as  a  whole  their 
manner  of  doing  business  is  entirely  unlike  them;  they  have,  as  a  rule, 
eliminated  from  their  scheme  the  modes  and  principles  by  which  the 
success  of  the  building  and  loan  association  has  been  secured. 

The  true  building  and  loan  association  is  a  comparatively  small 
affair;  its  operations  are  confined  to  the  place  where  located,  or  the 
immediate  vicinity;  most  of  its  officers  serve  without  pay;  each 
shareholder  can  know  what  the  association  is  doing  from  month  to 
month,  and  upon  what  securities  his  money  is  being  invested.  The 
shareholders  can  attend  the  annual  meetings  and  vote  in  person  for 
the  officers  of  their  choice.  There  are  no  official  places  with  salaries 
of  sufficient  amount  to  entice  the  scheming  and  crafty,  and  no  paid 
solicitors  for  business  to  mislead  the  ignorant  and  unwary. 

These  elements  of  safety  are  eliminated  in  the  national;  the 
motive  for  their  organization  is  to  furnish  business  and  gain  to  those 
who  organize  and  conduct  them.  No  capital  is  required  to  be  invested 
in  the  business.  Their  operations  spread  in  time  over  many  states; 
the  shareholders  cannot  know  what  the  association  is  doing  or  how  or 
where  their  money  is  being  invested.  They  cannot  attend  the  annual 
meetings  and  vote  in  person  for  officers;  they  simply  intrust  their 
money  to  strangers  to  handle  on  a  promise  that  it  will  be  returned  at 
some  time  in  the  future  with  large  interest. 

Some  of  these  associations  will  fall  into  the  control  of  honest  and 
capable  men  and  be  successful,  but  the  greatest  number  will  sooner 
or  later  come  to  failure  and  loss  to  the  shareholders. 

Whenever  so  line  a  field  of  operations  presents  itself  to  the  schem- 
ing and  dishonest  as  the  present  system  of  the  national  building  and 

'  Adapted  from  an  address,  quoted  in  Bureau  of  Labor  Bulletin  IX, 
pp.  1 499- 1 500. 


CO-OPERATIVE  BANKING  AGENXIES  361 

loan  association,  we  may  rest  assured  that  the  scheming  and  dis- 
honest will  enter  it  and  pluck  their  victims  until  restrained  by  proper 
legal  restrictions. 

177.     A  FIXANCI.\L  STATEMENT 

CASH   RECEIPTS 

Cash  on  hand,  April  I,  191 5 S        167.48 

Instalments  "A" S9,52(S.34 

D       2 ,400    00 

Interest 3,074.32 

Premium 51738 

Fines 1 7 .  00 

Loans  repaid 2,750  00 

Expenses  (rents) 25. 00 

Real  estate  contracts 1,291 .  52 

19,603.56 

Outstanding  orders 3,166.80 

Total $22,937.84 

ASSETS 

Real  estate  loans  and  contracts $162,809. 42 

Stock  loans 55,3:5.00 

Tax  certificates 68 1 .  03 

Interest,  taxes,  etc.,  due  and  accrued 2,218.  29 

Real  estate  owned  by  Association 628. 14 

Oflice  furniture 179.00 

Cash  on  hand 2,184  22 

Total $224,025  10 

CASH   DISBURSEMEKTS 

Outstanding  orders,  April  i,  1915 $  2,099  08 

Loans $  2,750  00 

Instalments  withdrawn 3,170.  50 

Interest 238 .  50 

Expenses 858 .  04 

Real  estate  contracts i37  5° 

Matured  stock 10,800  00 

Contingent  fund 700  00 

18,654.54 

Cash  on  hand 2,184.  22 

Total 22,937.84 

•  165th   Quarterly   Statement   of   Peoples'  BuildinR   and   Loan  Association, 
Chicago. 


302                      PRINCIPLES  OF  MONEY  AND  BANKING 

LIABILITIES 

Instalments  "A" $174,611.56 

"B" 7,425.00 

Surplus 29,916. 10 

Contingent  fund 8,905 .  64 

Outstanding  orders 3,166. 80 


Total $224,025. 10 

178.    THE  APPEAL^ 

Do  you  know: 

1.  That  there  are  608  building  and  loan  associations  in  the  State 
of  Illinois,  with  assets  amounting  to  $90,572,343.45  ? 

2.  That  there  are  6,429  building  and  loan  associations  in  the 
United  States  with  assets  amounting  to  the  immense  sum  of 
$1,248,479,139.00? 

3.  That  most  of  this  huge  sum  is  owned  by  people  of  small  or 
moderate  means  ? 

4.  That  while  banks  have  failed  all  over  the  country  during  the 
recent  hard  times  the  building  and  loan  associations  have  stood  like 
the  rock  of  Gibraltar  ? 

5.  That  building  and  loan  associations  can  only  loan  money  on 
improved  real  estate  and  only  on  first  mortgages,  making  losses 
almost  impossible  ? 

6.  That  well-managed  building  and  loan  associations  furnish  the 
safest  place  of  deposit  and  give  a  higher  rate  of  interest  than  any 
similar  investment  ? 

7.  That  The  Swedish  Home  Building  Association  has  for  nearly 
twenty  years  paid  its  depositors  handsome  dividends  and  furnishes 
an  absolutely  safe  place  for  your  savings  ? 

^  From  Circular  of  The  Swedish  Home  Bxiilding  Association,  Chicago. 


IX 

AGRICULTURAL  CREDIT 

Introduction 

During  recent  years  there  has  developed  in  this  country  an 
insistent  agitation  for  the  reduction  of  rates  on  agricultural  loans 
and  for  an  improvement  of  the  general  conditions  upon  which 
credit  is  extended  to  farmers.  This  demand  for  better  agricultural 
credit  is  in  a  way  the  old  agitation  for  more  and  cheaper  money  which 
lay  at  the  basis  of  the  greenbac*k  and  paper-money  mo\ements  of 
earlier  generations.  The  general  prosperity  that  began  in  1897  and 
continued  almost  uninterruptedly  for  a  decade  had  served  to  quiet 
for  a  time  the  discontent  of  the  farming  community.  Abundant 
crops  sold  at  constantly  increasing  prices  had  permitted  many  of  the 
farm  mortgages  to  be  paid  off,  and  thus  indirectly  the  old  source  of 
complaint  had  been  removed.  But  conditions  must  constantly 
improve  if  dissatisfaction  is  to  be  permanently  allayed.  While  able 
to  cancel  their  mortgage  obligations,  farmers  came  to  realize  that  tJiey 
were  nevertheless  paying  high  ("exorbitant")  rates  for  money,  and 
that  their  business  was  thereby  relatively  handicapped.  The  publi- 
cation a  few  years  ago  of  a  number  of  rather  striking  articles,  which 
indicated  that  farmers  in  many  sections  were  pa\ing  from  8  to  12 
per  cent  for  money  as  contrasted  with  rates  in  our  industrial  centers 
of  from  4  to  6  per  cent,  laid  the  basis  for  a  vcn.-  general  feeling  of 
unjust  discrimination  against  the  farmers.  And  when  it  was  pointed 
out  that  in  Europe  farm  loans  may  be  had  at  rates  of  only  4  or  5  per 
cent,  this  feeling  of  injustice  was  of  course  greatly  intensified.  It  was 
easy  on  the  basis  of  these  percentages  to  show  that  the  farmers  of  the 
country'  were  being  compelled  to  pay  annually  many  millions  of  dollars 
in  unnecessar)'  interest.     Something  must  therefore  be  done. 

After  the  reorganization  of  the  national  banking  system,  which 
serves  mainly  the  larger  industrial  and  commercial  businesses  of  the 
countr)^,  the  demand  for  legislation  in  the  interests  of  agriculture 
became  insistent.  The  reports  of  the  different  commissions  that  were 
sent  to  Europe  to  investigate  agricultural  credit  there  and  the  almost 

3f>3 


364  PRINCIPLES  OF  MONEY  AND  BANKING 

innumerable  conferences  that  have  been  held  on  the  subject  in  the  last 
four  years  have  served  to  educate  the  country  on  the  subject,  while 
practical  results  are  shown  in  actual  legislation  in  numerous  states, 
and  pending  legislation  by  the  federal  government.  At  the  same  time 
our  regular  banking  agencies,  particularh  the  state  banks,  have 
aUem])led  to  cultivate  the  farmer  more  assidiously  than  in  the  past, 
and  to  improve  the  ordinary  banking  facilities  for  agricultural  loans. 
It  begins  to  appear,  therefore,  that  the  farmers  are  achieving  the 
end  sought. 

Much  of  the  agitation  on  the  subject  has  sprung  from  false  assump- 
tions or  has  been  based  on  an  inadequate  grasp  of  the  principles  under- 
lying the  rates  of  interest  on  various  classes  of  loans.  For  a  time  many 
proposals  were  advanced  that  the  government  should  make  loans 
direct  to  the  farmers  at  rates  of  i  or  2  per  cent;  but  sounder  ideas 
prevailed  in  this  connection,  and  the  advocates  of  self-reliance  and 
self-help  appear  to  have  won  the  day.  Again,  there  has  very  often 
been  no  distinction  between  loans  for  commercial  and  investment 
purposes,  the  rates  to  farmers  for  purely  investment  loans  being  com- 
pared with  the  rates  to  business  for  commercial  funds.  Similarly, 
there  has  been  little  analysis  of  the  relative  supply  of  available  funds 
or  of  the  varying  risks  involved  in  different  sections  of  the  country, 
rates  in  sparsely  settled  western  states  being  contrasted  with  those 
of  the  central  and  eastern  states  where  industry  is  further  developed 
and  where  credit  has  been  more  or  less  standardized.  But  while  the 
movement  has  thus  been  based  in  considerable  measure  on  miscon- 
ceptions, legislation  on  the  subject  fortunately  appears  to  be  pro- 
ceeding in  the  main  along  conservative  lines  and  undoubtedly  will 
be  productive  of  much  good.  Our  farmers  have  suffered  much  in 
the  past  from  the  poor  organization  of  agricultural  credit,  and  the 
agitation  will  doubtless  result  in  a  substantial  improvement  in  farm 
credit  facilities.  But  perhaps  an  even  greater  gain  will  lie  in  the 
improvement  of  the  credit  risks  of  the  farming  class  in  consequence 
of  the  information  that  has  been  so  generally  disseminated  with 
reference  to  the  principles  underlying  sound  credit. 

The  selections  below  are  grouped  under  two  headings:  "Short- 
Time  'Commercial'  Credit"  and  "Long-Time  Investment  Credit." 
Loans  made  to  farmers  for  the  growing  or  harvesting  of  crops  are 
commercial  in  their  nature.  The  funds  may  be  liquidated  out  of  the 
sale  of  the  crops  produced  thereby,  in  much  the  same  way  that  com- 
mercial loans  to  manufacturing  or  mercantile  establishments  are  self- 


AGRICULTURAL  CREDIT  3^5 

liquidating.  Our  "commercial"  banks  have  endeavored  to  supply 
such  credit  to  farmers,  and  in  the  main  they  have  given  fair  satisfac- 
tion. Perhaps  the  greatest  improvement  to  be  made  in  connection 
with  short-time  credit  to  farmers  must  lie  with  the  farmers  themselves; 
they  must  improve  their  credit  risks  if  they  would  obtain  credit  on 
more  favorable  terms.  The  organization  among  farmers  of  co- 
operative credit  unions  such  as  those  discussed  in  the  previous 
chapter  also  offers  possibilities  in  connection  with  short-time  agri- 
cultural credit,  though  in  the  main  farm  life  in  this  country  is  not 
well  adapted  to  this  form  of  organization. 

The  greatest  problem  of  agricultural  credit  is  in  connection 
with  the  extending  of  long-time  investment  credit  to  farmers  on  the 
basis  of  mortgage  security.  While  the  character  of  the  risk  on 
loans  for  agricultural  investment  is  frequently  very  bad,  and  while 
the  cases  of  extraordinarily  high  rates  are  usually  justified  by  the 
conditions,  there  has  nevertheless  been  very  inadequate  organization 
of  the  farm  mortgage  business,  and  rates  have  been  unnecessarily 
high,  especially  when  the  numerous  incidental  fees  involved  are  con- 
sidered. The  development  of  mortgage  associations  and  the  use  of 
the  amortization  principle  will  doubtless  prove  of  great  benefit  on  the 
investment  side  of  agricultural  credit. 

A.     Short-Time  "Commercial"  Credit 

179.    SHORT-TIME  AGRICULTURAL  LOANS  IN  THE  UNITED 

STATES' 

By  EDWIN  WALTER  KEMMERER 

The  United  States,  although  the  leading  country'  of  the  world  in 
the  amount  of  its  agricultural  products  and  in  the  extent  of  its  banking 
business,  is  behind  nearly  every  other  progressive  country  of  impor- 
tance in  the  development  of  agricultural  credit,  i.e.,  short-time  non- 
mortgage  credit.  Our  manufacturing  and  commercial  businesses  are 
financed  largely  ])y  means  of  such  credit,  and  the  capital  invested  in 
these  industries  is  thereby  rendered  manifoldly  eflicienl.  Not  so  with 
agriculture.  Most  farmers  ai)parently  make  little  or  no  use  of  short- 
time  credit.  There  seems  to  be  a  wide  acceptance  in  this  country  of 
the  dictum  of  Louis  XIV,  that  "credit  supports  agriculture,  as  the 

'  Adapted  from  "Agricultural  Credit  in  the  United  States,"  American  Eco- 
nomic Review,  II  (191 2),  852-63. 


366  PRINCIPLES  OF  MONEY  AND  BANKING 

cord  supports  the  hanged."  Is  this  a  correct  description  of  the  situa- 
tion ?  If  so,  what  is  the  explanation,  and  what  remedies,  if  any,  are 
needed  ?  The  object  of  this  paper  is  to  throw  light  upon  the  answer 
to  these  questions. 

First,  as  to  existing  banking  facilities  for  agricultural  credit  and 
their  utilization  by  fanners.  It  is  well  known  that  the  banking  capital 
of  the  country  is  concentrated  to  a  great  extent  in  our  large  cities,  to 
a  greater  extent  than  it  would  be  if  we  had  a  well-developed  system 
of  branch  banks  like  Canada,  and  that  the  banks  of  these  cities  are 
prevented  by  reason  of  their  location  from  making  many  agricultural 
loans,  even  if  they  were  so  inclined.  Of  the  7,301  national  banks  in 
the  United  States  on  September  i,  191 1,  192,  or  2.6  per  cent,  were 
located  in  the  dozen  largest  cities  of  the  country.  The  national  banks 
of  these  twelve  cities,  representing  but  14  per  cent  of  the  population 
of  the  country,  had  37  per  cent  of  the  national  banking  capital  (capi- 
tal, surplus,  and  undivided  profits),  33  per  cent  of  the  individual 
deposits,  and  40  per  cent  of  the  loans.  It  should  be  noted,  however, 
that  since  the  act  of  1900,  authorizing  the  establishment  of  national 
banks  with  capital  of  less  than  $50,000  in  small  towns,  there  has  been 
a  continual  and  rapid  increase  in  the  number  of  national  banks  in 
small  communities.  On  September  i,  191 1,  out  of  the  total  of  7,301 
national  banks  there  were  1,966  with  a  capital  of  $25,000,  and  there- 
fore presumably  located  in  towns  of  less  than  3,000  population,  372 
with  a  capital  between  $25,000  and  $50,000,  and  therefore  presumably 
in  towns  of  less  than  6,000  population,  and  2,297  with  a  capital 
between  $50,000  and  $100,000.  Except  for  banks  in  towns  not  exceed- 
ing 6,000  population,  the  law  as  amended  in  1900  does  not  permit  any 
national  bank  to  be  organized  with  a  capital  less  than  $100,000. 

Are  the  national  banks  which  are  accessible  to  farmers  in  a  posi- 
tion under  the  law  to  meet  the  farmers'  needs  ?  The  answer  to  this 
question  must  be  in  the  affirmative.  Aside  from  the  fact  that 
national  banks  are  not  permitted  to  make  loans  on  real  estate  security,^ 
there  is  no  restriction  in  the  national  banking  act  which  would  inter- 
fere with  loans  to  farmers  for  agricultural  purj^oses.  Personal  security 
alone  is  legally  acceptable;  the  range  of  possible  collateral  security  is 
practically  unlimited,  and  there  is  no  limitation  fixed  by  law  as  to 
the  period  of  loans.  National  banks,  therefore,  have  a  very  free  hand 
in  regard  to  loans  to  farmers. 

'  Note  limited  privilege  of  making  such  loans  granted  by  sec.  24  of  Federal 
Reserve  Act. 


AGRICULTURAL  CREDIT  367 

When  we  inquire  concerning  agricultural  credit  in  banks  under 
state  charters  we  find  conditions  var\ing  witli  the  different  states; 
but,  with  a  few  minor  qualifications,  it  may  be  said  that  the  state 
banking  laws  are  free  from  restrictions  that  would  hamper  state  banks 
and  trust  companies  in  extending  credit  liberally  to  responsible 
farmers.  They  are  in  a  much  better  position  in  one  respect  to  deal 
with  farmers  than  are  national  banks,  that  is,  in  the  matter  of  accept- 
ing real  estate  security.  No  state  denies  this  privilege,  and  such 
restrictions  as  exist  upon  its  exercise  are  generally  not  onerous. 

If  commercial  banks  are  comparatively  unhampered  by  law  in 
making  short-time  loans  to  farmers,  it  may  be  asked:  To  what  extent 
are  such  loans  made  ?  Unfortunately,  practically  no  information  is 
available  on  this  question. 

So  far  as  information  can  be  secured,  one  gets  but  a  confused 
picture  of  widely  var}'ing  conditions  as  regards  bank  loans  to  farmers. 
Although  the  farmers  in  any  section  of  the  country  may  not  resort 
to  the  banks  for  short-time  credit,  it  does  not  follow  that  they  are  not 
receiving  such  credit.  As  a  matter  of  fact  they  are  often  receiving  it 
on  a  considerable  scale  and  in  the  most  ex-pensive  way,  i.e.,  in  the  form 
of  book  credits  with  merchants.  It  is  a  common  practice  throughout 
the  country  for  farmers  to  run  up  book  accounts  with  local  merchants 
during  the  spring  and  summer  to  be  paid  in  the  fall  when  the  crops 
are  sold.  When  this  is  done  on  any  considerable  scale  the  farmer 
probably  pays  more  than  bank  interest  under  the  guise  of  prices;  and 
this  is  particularly  true  when  he  obligates  himself  to  sell  his  crops  to 
the  creditor  merchant.  In  the  South  this  practice  is  carried  to  the 
extreme  in  the  familiar  "store  lien"  system,  which  holds  many  farmers 
in  the  cotton  belt  in  a  condition  bordering  on  perpetual  servitude. 
The  custom  is  for  the  farmer  to  buy  supplies  of  the  local  general  store 
on  credit  for  the  year,  agreeing  to  sell  to  the  merchant  his  cotton  crop 
in  the  fall,  thereby  canceling  the  debt.  A  crop  lien  is  generally  given, 
and  the  merchant  often  dictates  the  character  and  the  amount  of  the 
planting.  The  prices  paid  for  cotton  under  this  system  are  liable  to 
be  exceptionally  low  and  the  prices  paid  by  tlie  farmer  for  his  supphes 
exceptionally  high.  The  system  has  proven  a  curse  to  many  sections 
of  the  South. 

The  chief  reasons  for  the  backwardness  of  the  United  States  as 
compared  with  Europe  with  regard  to  agricultural  credit  may  be 
briefly  summarized  as  follows:  (i)  our  wonderful  agricultural  domain, 
where  good  land  could  be  had  almost  for  the  asking,  and  where  for 


368  PRINClPLIvS  OF  MONEY  AND  BANKING 

generations  land  was  so  cheap  and  labor  and  capital  so  dear  that 
intensive  cultivation  was  generally  unprofitable ;  (2)  the  prosperity  of 
our  farmers,  who  have  not  been  forced  by  dire  necessity  to  resort  to 
credit  as  were  the  farmers  of  Germany  in  the  middle  of  the  last  cen- 
tury when  the  Raiffeisen  co-operative  banks  were  first  organized; 
(3)  the  nomadic  character  of  a  considerable  part  of  our  agricultural 
population,  as  it  has  moved  continually  westward  in  taking  up  new 
lands,  and  more  recently  as  it  has  been  retracing  its  steps  or  moving 
northward;  (4)  the  isolation  of  our  farmers  in  this  country  of  large 
farms  and  "magnificent  distances";  (5)  the  rapid  growth  of  manu- 
facturing and  commercial  business  of  the  country,  and  that  largely  in 
the  hands  of  the  same  class  of  people  who  control  the  bulk  of  the 
banking  business. 

Add  to  these  circumstances  the  obstacles  which  farmers  always 
encounter  in  the  matter  of  credit,  as  compared  with  manufacturers 
and  merchants — obstacles  such  as  the  uncertainty  of  crops  and  the 
strongly  seasonal  character  of  the  farmer's  credit  demands — and  we 
have  a  sufficient  explanation  for  the  backwardness  of  agricultural 
credit  in  this  country. 

To  emphasize  most  of  these  causes,  however,  is  to  brand  one's  self 
as  belonging  to  a  past  generation.  Our  domain  of  free  arable  land  is 
practically  gone;  good  farms  must  be  bought,  and  for  them  ever- 
increasing  prices  must  be  paid. 

The  era  of  hand  cultivation  is  giving  way  to  that  of  farm  machinery 
propelled  by  horse-power  and  even  by  steam,  gasoline,  or  electricity, 
with  its  resulting  great  increase  in  the  efficiency  of  labor. 

Another  development  which  is  making  larger  demands  upon  the 
farmer  for  working  capital  is  the  increasing  use  of  artificial  fertilizers, 
the  expenditure  for  which  in  the  United  States  approximately  doubled 
from  1890  to  1900. 

As  the  result  of  such  tendencies  of  the  rapid  depletion  of  our  free 
domain,  farming  in  the  United  States  is  losing  its  old-time  kinship 
to  mining  and  becoming  more  like  manufacturing.  More  and  better 
machinery  and  more  power  are  needed  on  most  farms  in  the  interest 
of  efficiency.     This  calls  for  short-time  credit. 

When  seeking  credit  the  farmer  can  now  offer  better  security  than 
ever  before.  His  markets  are  larger,  better  organized,  more  certain, 
and  more  accessible.  The  risk  of  crop  failure  is  less,  thanks  to  the 
wonderful  progress  of  scientific  agriculture.  There  are  few  pests 
which  cannot  now  be  readily  controlled  by  the  intelligent  farmer  who 


AGRICULTUR.\L  CREDIT  369 

takes  time  by  the  forelock.  The  problem  of  moisture  is  growing  less 
serious  every  year  with  the  improvements  in  irrigation,  dry  farming, 
and  the  more  scientific  diversification  of  crops. 

If  the  time  is  ripe  for  a  greater  use  of  bank  credit  in  agriculture, 
how  is  that  credit  to  be  obtained  ?  Broadly  speaking,  four  methods 
may  be  mentioned,  only  the  last  two  of  which  are  deserving  of  much 
attention  at  the  present  time.  They  are:  (i)  establish  government 
agricultural  banks;  (2)  adopt  the  Egj^Dtian  plan  of  a  government 
guaranty  to  an  agricultural  bank  established  with  private  capital; 
(3)  encourage  the  farmers  to  organize  co-operative  credit  societies  on 
some  such  plan  as  the  RailTeisen  or  Schulze-Delitzsch  banks  of  Ger- 
many; (4)  utilize  more  effectively  in  the  interest  of  the  farmer  our 
present  banking  machinery,  and  improve  it  where  it  is  defective. 

180.    PRESENT  FACILITIES  FOR  AGRICULTURAL  CREDIT' 

In  191 2  the  United  States  Department  of  Agriculture  in  an 
endeavor  to  ascertain  the  present  status  of  agricultural  credit  in  the 
United  States  got  out  a  questionnaire  which  was  submitted  to  nine 
thousand  interested  parties  in  widely  scattered  sections  of  the  country. 
Three  thousand  copies  were  sent  to  farmers,  three  thousand  to  country 
bankers,  and  three  thousand  to  merchants.  The  conclusions  reached 
may  be  summarized  as  follows: 

I.  Percentage  of  farmers  able  to  give  good  security  or  indorsed  note  for  a  loan: 

a)  Farm-owners — 77  per  cent 

b)  Farm- tenants — 46  per  cent 

II.  Percentage  of  above  able  to  secure  short-titne  loans: 

a)  Owners — 48  per  cent 

b)  Tenants — 26  per  cent 

On  the  whole,  short-time  loans  appeared  to  be  easier  to  secure  than 
long-time  loans. 

III.  Would  borrowers  use  funds  conservatively  ami  profitably?     Those  who 
answered  the  question  replied  as  follows: 

a)  26  per  cent  stated  farmers  would  not  make  good  use  of  funds 
6)  32  per  cent  said  farmers  would  rnake  good  use  of  funds 

IV.  Extent  of  crop  liens: 
A.  Cotton 

o)  Owners 

1.  7  per  cent  reported  no  liens  on  cotton 

2.  93  per  cent  reported  as  follows: 

{i)  In  1Q02,  52  per  cent  placed  liens  on  cotton 
{ii)  In  191 2,  42  per  cent  placed  liens  on  cotton 

'Adapted  from  Report  of  U>iited  Stales  Department  of  Agriculture  (191 2), 
pp.  25-29. 


370  PRINCIPLES  OF  MONEY  AND  HANKING 

b)  Tenants 

1.  In  1902,  77  per  cent  placed  liens  on  cotton 

2.  In  191 2,  74  per  cent  placed  liens  on  cotton 
B.  Other  crops 

a)  Owners 

1.  29  per  cent  report  no  liens  on  crop 

2.  71  per  cent  report  24  per  cent  placed  liens  on  crop 

b)  Tenants 

1.  17  per  cent  report  no  liens  on  crop 

2.  83  per  cent  report  that  40  per  cent  placed  liens  on  crops 
V.  Extent  of  personal  property  mortgages: 

a)  Owners 

1.  17  per  cent  report  no  liens  on  live  stock,  farm  machinery,  or 
other  personalty 

2.  83  per  cent  report  that  25  per  cent  do  place  such  liens 

VI.   Use  of  warehouse  receipts  {grain,  tobacco,  cotton,  and  other  products) : 

a)  63  per  cent  stated  that  they  do  not  exist 

b)  37  per  cent  stated  that  26  per  cent  of  farmers  use  them  for  obtain- 
ing credit 

VII.  Sources  of  credit: 

a)  Local  banks  supply  57  per  cent  in  communities  where  banks 
exist 

b)  Neighbors  supply  16  per  cent  in  communities  where  they  con- 
tribute anything  to  the  supply  of  credit 

c)  Individual  lenders  in  near-by  cities  and  towns  supply  12  per  cent 
where  they  supply  any 

d)  Loan  agents  for  outside  capital  supply  16  per  cent  in  communities 
where  such  loan  agencies  exist 

e)  Local  general  stores  supply  25  per  cent  in  places  where  they  supply 
any.  Store  credit,  while  rarely  mentioned  in  discussions  of  rural 
credit,  is  very  important.  Reports  show  those  having  unsecured 
running  accounts  with  local  merchants  as  follows: 

1.  Owners,  59  per  cent 

2.  Tenants,  53  per  cent 

It  appears  that  owners  get  no  store  credit  in  only  i  per  cent  of  the 
communities.  In  these  communities  2  per  cent  of  tenants  do  get  it. 
/)  Unclassified  sources,  where  they  exist,  supply  13  per  cent.  "It 
was  reported  by  correspondents  that  in  i  per  cent  of  the  com- 
munities there  was  no  supply  of  credit  by  banks;  in  11  per  cent 
of  the  communities  no  supply  by  neighbors;  in  39  per  cent  of  the 
communities  no  supply  by  individual  lenders  in  near-by  cities  and 
towns;  in  51  per  cent  of  the  communities  no  supply  by  loan  agents 
for  outside  capital;   in  47  per  cent  of  the  communities  no  supply 


AGRICULTURAL  CREDIT  37 1 

by  local  general  stores,  and  in  93  per  cent  of  the  communities 
no  supply  from  other  sources 
VIII.  Range  of  amounts  of  loans,  not  including  purchase  money: 

a)  Owners,  $2 74-$!, 767 

b)  Tenants,  $io7-$473 

IX.  Would  they  form  co-operative  associations? 

32  per  cent  reported  that  there  are  no  farmers  who  would  be  willing 
to  form  such  associations,  but  the  remainder  of  the  correspond- 
ents reported  that  about  40  per  cent  of  the  farmers  stand  ready 
to  organize  such  co-operative  associations. 

The  foregoing  is  a  brief  and  highly  condensed  statement  of  the 
chief  results  of  this  investigation  of  local  conditions  relating  to  agri- 
cultural credit.  Numerous  variations  from  the  general  facts  appear 
in  the  nine  geographical  divisions  of  the  states,  and  still  more  so  in 
the  different  states  themselves. 

181.    REASONS  FOR  POOR  CREDIT  IN  THE  SOUTff 
By  (MRS.)  G.  H.  MATHIS 

The  reason  for  poor  farming  and  poor  credit  in  the  South  is 
primarily  inefficient  farming — the  one-crop  system,  and  laziness  or 
idling  away  the  time.  The  cotton  crop  requires  a  man's  real  labor 
for  only  160  days  in  the  year,  but  those  160  days  are  scattered  along 
throughout  the  year,  so  that  the  laborer  can't  take  up  any  other 
employment.  He  is  really  idle  200  days  in  the  year.  The  average 
Alabama  farmer  earns  $335  a  year,  and  takes  that  on  credit,  three- 
fourths  of  it,  and  ne^'er  sees  the  money,  so  when  the  end  of  the  year 
comes  he  has  only  had  his  victuals  and  clothes.  And  of  course  he 
is  lying  down  on  the  job  all  the  time  because  he  doesn't  see  anything 
in  it.     The  system  is  wrong. 

Now  there  is  nothing  on  the  face  of  the  earth,  in  our  climate  or 
in  our  soil,  that  forces  us  into  a  one-crop  system.  We  can  grow  any- 
thing on  the  face  of  the  earth  that  will  grow  in  Uie  temperate  zone. 
If  there  is  anything  that  you  can't  grow  there  I  don't  know  what  it  is. 
But  still  we  do  a  whole  lot  of  nonsensical  things,  and  I  will  tell  you 
what  I  have  told  the  people  of  Alabama  a  good  many  limes  -  it  may 
not  sound  ver\-  nice,  but  it  ajjplies  to  us — and  that  is,  we  southern 
people  can  do  more  fool  stunts  to  the  square  iiuli  than  any  set  of 

'  Adapted  from  an  address  before  Farm  MortnaKe  Bankers'  Association, 
St.  Louis,  1915,  published  in  United  Slates  Investor,  XXVI  (1915).  1983-84. 


372  TRlNCirLKS  OF  MONEY  AND  BANKING 

people  on  earth.  We  just  get  right  in  our  own  way  and  keep  a-standing 
there.  Why,  you  would  meet  yourself  coming  and  going.  It  is  the 
truth. 

Now,  I  will  show  you  how  ridiculous  a  great  many  of  the  things 
we  do  are.  In  the  first  place  we  send  here  to  St.  Louis,  Chicago,  and 
Kansas  City,  and  we  buy  meat,  ham,  breakfast  bacon,  and  all  sorts  of 
hog  meat,  and  we  pay  anywhere  from  twelve  to  thirty  cents  a  pound, 
and  we  can  grow  all  we  want  at  two  and  one-half  cents.  It  is  a  fact. 
Get  our  agricultural  bulletin  and  see  that  we  can.  And  we  send  and 
buy  beef  and  we  pay  all  sorts  of  prices  for  it,  ten,  twenty,  and  some- 
times forty  cents  a  pound,  and  we  can  grow  that  same  beef  at  four 
cents  or  less.  And  then  we  send  out  West  and  we  buy  hay,  and  we 
pay  anywhere  from  $15  to  $26  a  ton,  and  $16  of  that  money  is  freight 
and  goes  to  the  railroad,  and  $4  goes  to  the  middleman  who  handles 
it,  and  the  fellow  who  grows  the  hay  gets  $6  a  ton,  and  we  don't 
care  a  cent  who  gets  the  money,  just  so  we  get  rid  of  it.  And  we  can 
grow  that  hay  for  $1 .  50  a  ton.  Now  talk  about  us  shipping  hay  into 
Alabama;  why  we  can't  hardly  keep  from  growing  hay.  We  have  to 
work  ourselves  to  death  to  keep  from  growing  hay.  We  have  to 
kill  the  grass  to  grow  the  cotton  to  buy  the  grass,  and  we  are  like  some- 
one going  around  on  a  merry-go-round;  we  haven't  had  time  to  see 
what  else  we  could  do.  So,  of  course,  that  is  another  nonsensical 
position  for  us  to  take,  and  there  is  no  sense  in  it  at  all.  And  when  it 
comes  to  corn,  we  have  got  the  world's  record  on  corn  beat.  Alabama 
is  the  natural  home  of  corn — two  hundred  and  thirty-two  and  one- 
half  bushels  to  the  acre.     Can  you  beat  it  ? 

Well,  now,  we  can  do  most  anything  we  will  try  to  do.  Our 
trouble  is  we  do  not  try.  That  is  clearly  our  trouble  there.  We  have 
gotten  off  at  a  tangent.  Oh,  it  is  ridiculous,  and  distressing  too.  It 
would  be  very,  very  funny  if  it  wasn't  so  awfully  tragic  for  a  great 
many  of  our  people  to  be  going  off  that  way. 

If  we  practice  diversified  farming  and  spend  our  time  in  work 
instead  of  idleness,  we  have  no  trouble.  Farming  is  nowhere  more 
profitable  than  in  Alabama.  I  have  seen  it  proved  for  many  years 
that  abundance  of  credit  can  be  secured  where  people  are  using  their 
1)rains  and  are  working  throughout  the  year. 


AGRICULTURAL  CREDIT  373 

182.     PLANS  FOR  IMPROVING  FARM  CREDIT  WITH  LOCAL 

BANKS' 

By  C.  W.  THOMPSON 

Three  different  plans  are  here  presented  by  which  farmers  have 
improved  their  personal  credit  with  local  banks.  Each  plan  has 
enabled  farmers  to  borrow  money  at  reduced  rates  of  interest  and  on 
more  favorable  terms  of  repayment  than  usual.  The  loans  secured 
under  these  plans  were  all  used  for  the  purchase  of  improved  dairy 
stock.  However,  it  is  believed  that  similar  arrangements  would 
help  farmers  to  improve  their  credit  in  connection  with  other  farm 
enterprises,  such  as  cattle-breeding  and  hog-raising,  or  in  securing 
suitable  farm  equipment. 

PLAN   I 

Under  Plan  I  farmers  enter  into  an  agreement  with  local  bankers 
or  with  other  persons  who  supply  the  loans  to  adopt  a  uniform  and 
approved  system  of  dairy  improvement.  The  security  given  by  the 
farmers  is  not  difTerent  from  that  ordinarily  required.  Those  fur- 
nishing the  funds  also  buy  the  dairy  stock,  usually  under  the  advice 
of  dairy  specialists  connected  with  the  State  or  Federal  Government. 
The  stock  is  sold  to  the  farmers  at  actual  cost  plus  a  certain  per- 
centage (say  2  per  cent)  to  cover  incidental  expenses.  The  lender 
takes  in  payment  the  farmer's  personal  note  with  or  without  indorse- 
ment, or  with  mortgage  security  on  the  stock  purchased. 

Under  this  plan,  as  worked  out  in  certain  localities  in  North 
Dakota,  the  farmer  has  borrowed  money  on  his  personal  note  with 
interest  at  8  per  cent,  whereas  the  usual  local  rate  is  10  or  12  per  cent. 
The  notes  were  drawn  for  periods  var>'ing  from  six  months  to  a  year, 
but  permitted  renewals  and  partial  pre]iaymenls  on  the  principal. 

The  same  general  plan  was  carried  out  during  the  fall  of  191 2  with 
a  group  of  farmers  in  southern  Idaho.  In  that  instance  three  or  four 
banks  took  up  the  work  together,  each  agreeing  to  finance  a  carload 
of  dairy  stock. 

As  a  third  example  may  be  cited  the  work  undertaken  in  a  western 
Nevada  community  in  the  summer  of  1913.  Here  the  linancial 
backers  of  a  local  creamery  sujii^lied  the  loans.  The  farmers  gave 
indorsed  paper  together  with  mortgages  on  the  stock  i)urchascd. 
The  creamery  withheld  a  part  of  the  returns  from  milk  and  cream 
delivered. 

'  Adapted  from  Bulletin  6^4-13;   Ofl'icc  of  Markets  and  Rural  Organization. 


374  PRINCIPLKS  OF  MONEY  AND  liANKING 

There  are  regions,  however,  where  such  arrangements  are  not 
sufficient  to  enable  farmers  as  individuals  to  attract  the  necessary 
capital.  Some  additional  security  is  necessary  to  what  each  farmer 
is  able  to  furnish. 

PLAN   II 

In  the  plan  here  described  this  additional  security  is  obtained  by 
having  the  farmers  collectively  assume  a  certain  guarantee  of  the 
notes  given  by  the  members  under  the  agreement.  An  illustration 
of  how  this  has  worked  out  is  afforded  on  an  irrigation  project  in 
southern  Montana.  Nineteen  farmers  organized  an  association  in 
dealing  with  a  local  bank.  The  trustees  were  authorized  to  guarantee 
a  limited  amount  to  the  bank  on  the  joint  and  several  liability  of  the 
association  members.  By  adding  this  guarantee  to  the  security 
offered  by  the  individual  farmers  the  latter  were  able  to  secure  the 
necessary  capital  for  the  purchase  of  two  carloads  of  heifers  which 
were  shipped  in  from  another  State  in  August,  1913.  The  local  bank 
placed  $5,000  to  the  credit  of  the  association  at  8  per  cent,  whereas 
the  general  bank  rate  is  10  per  cent  or,  more  frequently,  12  per  cent. 
In  this  instance  two  men  from  the  association  were  sent  to  make  the 
purchase.  After  the  stock  had  been  secured,  a  proportionate  share 
of  all  outlay,  such  as  freight,  travel,  and  incidentals,  was  added  to  the 
purchase  price  of  each  animal,  and  charges  were  made  accordingly. 
As  in  the  illustration  given  from  western  Nevada,  provision  was  made 
for  the  periodic  payment  of  the  loans  out  of  the  dairy  products.  The 
articles  of  agreement  also  provided  that  the  purchaser  should  give 
the  animals  proper  care  and  breed  them  only  in  such  a  manner  as 
the  trustees  might  approve.  Such  safeguards  are  a  desirable  feature 
in  any  contract  of  this  kind. 

PLAN  in 
If,  in  place  of  the  limited  guarantee  supplied  by  farmers  them- 
selves jointly,  as  described  under  Plan  II,  a  similar  guarantee  from  a 
third  party  be  substituted,  the  essential  features  of  Plan  III  will  be 
the  result.  Such  a  plan  was  carried  out  in  northwestern  Wisconsin 
in  the  spring  of  1913  and  in  northeastern  Minnesota  in  the  winter 
of  1914.  The  third  party  consisted  of  local  business  men  who  realized 
their  common  interest  with  the  farmers  in  the  general  improvement 
of  agricultural  conditions  in  their  territory.  One  agreement  was  made 
between  the  farmers  and  trustees  appointed  by  bankers  and  another 
agreement  between  the  trustees  and  business  men.     The  latter  sub- 


AGRICULTURAL  CREDIT  375 

scribed  a  certain  percentage  of  the  funds  loaned,  with  the  understand- 
ing that  the  money  was  to  be  a  guarantee  fund  to  protect  the  bankers. 
The  tirst  purchase  made  under  this  plan  in  northwestern  Wisconsin 
included  several  carloads  of  dairy  stock,  the  advances  from  the  banks 
amounting  to  $9,475, 

183.    SHORT-TIME  PERSONAL  CREDIT  AMONG  JEWISH 
FARMERS' 

By  LEONARD  G.  ROBINSON 

Last  year  a  poor  Hebrew  immigrant — let  us  call  him  X — bought  a 
small  farm  in  Nassau,  Rensselaer  County,  New  York.  Ten  years  in  a 
sweatshop  had  impaired  his  health,  and  he  was  advised  by  his  physi- 
cian to  live  in  the  country.  By  dint  of  pinching  economy  he  had 
saved  up  Si, 000.  The  farm  he  bought  cost  $3,000.  He  paid  down 
his  $1,000  and  gave  a  first  mortgage  for  the  balance  of  $2,000  at  6 
per  cent.  With  a  bare  farm  on  his  hands  he  turned  to  the  Jewish 
Agricultural  and  Industrial  Aid  Society  of  New  York.  From  that 
society  he  received  a  loan  of  $1,000  to  equip  his  farm. 

Everything  seemed  to  go  along  fairly  well.  But  in  the  spring, 
when  in  the  midst  of  his  plowing,  X  lost  one  of  his  horses.  His  first 
thought  was  of  the  aid  society.  Time  was  very  precious,  however, 
and  every  day  counted  just  then.  He  therefore  went  to  Y,  from  whom 
he  had  purchased  his  first  team.  Yes,  Y  would  be  glad  to  sell  him  a 
horse,  but  he  must  have  at  least  half  cash.  X  then  went  to  Z,  who, 
he  knew,  lent  money  occasionally  to  the  farmers  in  the  neighborhood. 
Z  could  let  him  have  S50  for  three  months  provided  he  signed  a  note 
for  $75  at  6  per  cent.  X  had  no  alternative.  He  took  the  $50  and 
bought  a  horse  for  Sioo,  giving  a  note  for  the  balance  of  S50  for  three 
months,  also  at  6  per  cent.  It  therefore  cost  X  $26.88  for  the  use  of 
$100  for  three  months,  or  at  the  rate  of  107^  per  cent  per  annum. 

The  following  spring  X  again  lost  a  horse.  He  saw  three  or  four 
of  his  neighbors,  and  within  an  hour  he  obtained  a  loan  of  $100,  for 
which  he  paid  interest  at  the  rate  of  6  per  cent  per  annum,  or  $1 .50 
for  the  same  accommodation  for  which  he  had  j^aid  $26,88  only  the 
season  before. 

What  was  it  that  caused  the  extraordinary  change  in  this  farmer's 
ability  to  borrow  ?    The  answer  is  co-operative  credit. 

'Adapted  from  "The  Pioneer  Credit  Associations  in  the  United  States," 
United  States  Bureau  of  Education  Bulletin  No.  jo,  1913. 


376  PRINCIPLES  OF  MONEY  AND  BANKING 

While  the  Jewish  Agricultural  and  Industrial  Aid  Society  had  long 
realized  the  need  of  short-time  personal  credit  by  the  American 
farmer,  it  was  not  until  1909  that  we  were  prepared  to  attack  the 
proljlem  in  earnest.  But  the  work  has  progressed  with  great  rapidity, 
and  we  have  today  17  thriving  credit  unions — the  first  and  so  far  the 
only  co-operative  credit  banks  on  American  soil.  Eight  of  them  are 
in  New  York,  five  in  New  Jersey,  and  four  in  Connecticut.  Three 
were  organized  in  191 1,  five  more  in  191 2,  and  nine  more  this  year. 
The  eight  credit  unions  doing  business  last  year  reported  on  Decem- 
ber 31  a  total  membership  of  251.  Their  outstanding  shares  ($5  each) 
were  865.  They  had  been  in  operation  for  a  period  averaging  13 
months,  during  which  time  they  made  411  loans,  aggregating  $28,140, 
nearly  seven  times  their  share  capital.  Their  net  profits  for  this 
period  amounted  to  $545 .48,  or  at  the  rate  of  about  12^  per  cent  per 
annum  on  that  capital. 

One  of  the  most  marked  benefits  resulting  from  these  credit  unions 
is  the  virtual  stamping  out  of  usury  in  the  communities  in  which  they 
exist.  The  farmer,  finding  no  difficulty  in  obtaining  a  moderate  loan 
for  productive  purposes  quickly  and  cheaply,  no  longer  has  to  depend 
upon  the  generosity  of  his  neighbors,  the  forbearance  of  the  local 
storekeeper,  or  the  cupidity  of  the  usurer. 

Not  the  least  important  is  the  moral  and  educational  value  of 
these  credit  unions.  They  teach  their  members  business  methods  and 
self-government.  They  imbue  them  with  self-reliance  and  self- 
respect.  The}^  endow  them  with  a  high  sense  of  mutual  responsibility, 
stimulate  them  to  further  efforts  in  the  direction  of  co-operation  and 
mutual  self-help,  and  make  them  better  farmers  and  better  citizens. 

184.    THE  ARGUMENT  FOR  DIRECT  GOVERNMENT  LOANS  TO 

FARMERS^ 

By  E.  R.  BATHRICK 

The  argument  for  direct  loans  to  farmers  by  the  government  is 
based  upon  two  fundamental  propositions : 

First,  the  conservation  of  agriculture,  and,  as  a  legitimate  corol- 
lary, the  perpetuation  of  the  food  supply,  is  a  vitally  important 
national  policy,  and  so  considered  by  all  nations.  I  think  we  can 
agree  on  that. 

'  Adapted  from  Testimony  at  Joint  Hearings  before  the  Subcommittee  on  Bank- 
ing and  Currency,  63d  Cong.,  2d  sess.,  1914,  pp.  865-86. 


AGRICULTURAL  CREDIT  377 

Second,  this  important  national  policy,  so  vital  to  all  our  people, 
should  not  be  relegated  to  a  few  private  people  for  exploitation  and 
profit. 

This  much  being  agreed  ui)on,  I  contend  that  the  safest  and  best 
way  to  carry  out  this  policy  for  and  on  behalf  of  the  peo])le  of  the 
Nation  is  for  the  Nation  to  do  it  itself.  Private  persons  do  not  act  with 
patriotic  deference  to  public  needs  in  the  conduct  of  business  where 
their  investments  and  livelihood  are  at  stake.  No  exigency  could  be 
greater  than  the  failure  of  agriculture,  and  no  greater  danger  to  the 
existence  of  government  could  arise  than  a  short  food  supply.  No 
tenet  of  free  government  can  fjuiet  a  hungry  peoi)le,  and,  in  the  face 
of  such  a  contingency,  the  true  government  philosophies  would  avail 
nothing.  We  do  not  stand  close  to  such  a  condition  now,  but  wc  face 
the  steadily  rising  price  of  food,  whereby  many  of  our  peojile  are  con- 
fined to  a  pitiful  selection  of  edibles.  The  condition  as  it  applies  to 
production  and  consumption  of  food  is  bad  enough,  and  we  shall 
not  fulfil  our  best  functions  as  legislators  if  we  fail  to  choose  the 
speediest  and  most  ef!icacious  remedy.  Ever>'  leading  nation  on 
earth  is  lending  money  procured  by  the  sale  of  its  bonds,  or  appropria- 
tions from  its  tax  funds  to  farmers,  either  directly  to  the  borrower  or 
through  mutual  credit  associations.  Many  of  the  nations,  either  by 
Federal  Government  or  by  provincial  or  State  government,  are  guar- 
anteeing bonds  or  de])entures  issued  against  farm  mortgages.  From 
my  research  of  authentic  public  documents  and  ofiicial  rejwrts  I  have 
compiled  a  total  of  expenditures  of  this  character  wherein  the  "faith 
and  credit "  of  these  governments  were  pledged  to  the  extent  of  nearly 
$5,000,000,000. 

My  proposition  is  that  the  Government  borrow  money  at  not  to 
exceed  32-  per  cent  and  lend  it  to  farmers  direct  or  through  farmers' 
farm-credit  associations,  and  not  through  capitalists'  farm-credit 
associations.  I  would  not  ask  a  law  preventing  anybody  from  lending 
money  to  the  farmers.  I  do  not  desire  to  confine  lending  lo  farmers; 
but  if  we  will  pass  a  bill  which  is  a  combination  of  farmers'  self-help 
and  GovernniLMit  aid,  the  capitalist  lender  will  follow  our  terms  and 
interest  rates  without  any  law  made  for  him  at  all.  It  is  the  ex|)eri- 
ence  all  over  the  world  that  joint-stock  mortgage  banks  will  go  into 
the  business  at  the  lower  rate.  With  organizations  made  up  of 
farmers  the  Government  can  encourage  self-hel|)  and  co-operation 
among  farmers.  But  the  capitalists  can  help  themsehes,  and  in  a 
farm-credit  bill  it  is  not  the  pro\iiue  of  (Government  to  eiicourage 


378  PRINCIPLES  OF  MONEY  AND  BANKING 

capitalists  and  assist  them  to  make  money  out  of  agriculture.  By  my 
bill  we  could  force  or  rather  assist  the  farmers  in  helping  themselves 
on  both  long-  and  short-time  credit. 

We  would  have  mutual  organizations  for  the  purpose  of  carrying 
out  the  national  policy,  but  when  you  have  an  organization  that  is 
gotten  together  solely  for  the  purpose  of  making  profits  for  city 
investors  we  can  neither  carry  out  the  national  policy  nor  have  war- 
rant for  doing  anything  for  that  kind  of  an  institution. 

We  would  not  lend  on  every  application.  We  would  only  lend 
upon  those  who  are  willing  to  comply  with  our  regulations  respecting 
the  use  of  the  money  for  agricultural  purposes  and  for  the  purpose  in 
other  ways  to  carry  out  the  national  policy.  We,  as  a  Government, 
would  not  go  into  the  loaning  business  to  make  money,  although  it 
would  be  very  profitable  to  all  the  people.  It  is  the  history  of  all 
countries  that  if  we  were  to  do  this  thing  that  I  ask  to  be  done,  in  the 
way  I  propose,  joint-stock  companies  would,  without  our  intervention 
and  without  any  law  of  our  making,  follow  our  rates  of  interest,  and 
the  whole  mortgage  problem  would  soon  be  solved.  If  we  were  to 
stop,  the  rates  would  immediately  rise,  but  we  should  need  only  to 
keep  the  Government  plan  alive  to  hold  rates  steady  all  over  the 
country. 

Government  loans  would  make  a  profit  in  two  ways  for  all  the 
people.  One  way  would  be  a  cash  profit  from  the  margin  on  loans. 
This  cash  profit  would  be  sufficient  annually  without  taxing  the  people 
a  penny  to  pay  the  entire  cost  of  maintaining  and  constructing  good 
roads  under  the  Shackleford  good-roads  bill,  that  is,  $25,000,000.  The 
other  profit  would  be  also  for  all  the  people  and  expressed  in  a  wide- 
spread beneficence  affecting  not  only  agriculture  but  ever>'body  in  the 
city  as  well.  It  would  be  giving  these  profits  first  hand  and  direct 
by  the  quickest  and  best  way  it  can  be  done  and  not  by  the  slow 
indirection  of  relegating  our  great  national  policy  to  the  mercies  of 
profit-seeking  banks. 

The  bank  plan  will  make  a  profit  for  a  few  people,  mostly  for  those 
who  have  been  lending  money  to  farmers  at  high  rates  and  who  have 
created  these  very  conditions  we  are  tr}  ing  now  to  cure. 


AGRICULTURAL  CREDIT  379 

B.     Long-Time  Investment  Credit 

185.    FARM   IMORTGAGE   CREDIT  IN  THE   UNITED   STATES' 

By  C.  W.  THOMPSON 

During  the  past  two  years  the  Department  of  Agriculture  has 
been  making  a  special  study  of  rural  credits  in  the  United  States. 
Information  has  been  obtained  bearing  on  both  the  conditions  and 
the  facilities  for  supplying  farm  loans  in  the  ditTerent  states.  I  shall 
endeavor  to  indicate  briefly  some  of  the  results  of  this  study  with 
special  reference  to  farm  mortgage  credit. 

The  average  cost  of  farm  mortgage  loans,  for  interest  and  com- 
mission together,  as  indicated  by  a  recent  inquiry'  made  by  the  Office 
of  Market  and  Rural  Organization,  ranges  from  about  55  per  cent  in 
New  York,  where  commissions  are  seldom  charged,  to  10  per  cent  in 
Montana,  where  the  commission  amounts  to  about  i^  per  cent,  with 
8f  per  cent  interest.  In  Iowa,  where  the  farm  mortgage  loan  business 
is  pretty  well  standardized,  the  average  cost  for  interest  and  com- 
mission together  is  5 . 9  per  cent,  comprising  5 . 6  per  cent  for  interest 
and  a  commission  paid  once  for  all  in  advance.  In  Missouri  the  aver- 
age cost  for  these  two  items  is  6 . 8,  comprising  6 . 2  per  cent  for  interest 
and  0.6  per  cent  for  commission.  In  Texas  the  average  cost  for 
interest  plus  commission  is  9  per  cent,  with  a  little  more  than  5  per 
cent  going  for  commission;  and  in  Alabama  interest  and  commission 
together  average  nearly  9^  per  cent,  of  which  f  per  cent  is  for  com- 
mission. 

In  the  State  of  Iowa  there  is  relatively  little  variation  from  the 
average  rate,  6  per  cent,  the  lowest  figure  reported  from  any  locality 
being  5  per  cent  interest  with  no  commission  charged,  and  the  highest 
figure,  for  interest  plus  commission,  about  8  per  cent.  From  Texas, 
on  the  other  hand,  with  an  average  of  9  per  cent,  we  have  reports  from 
different  localities  giving  the  prevailing  cost  for  interest  plus  com- 
mission as  low  as  7  per  cent  and  as  high  as  13  per  cent;  and  from 
Alabama,  with  an  average  of  9I  per  cent,  reports  ranging  from  7J  to 
15  per  cent.  In  general,  the  lowest  charges  both  for  interest  and 
commission  are  found  in  the  more  developed  agricultural  sections  of 
the  East  and  Middle  West.  The  extreme  figures  apply  in  the  South 
and  the  Rocky  Mountain  states. 

'  Adapted  from  an  address  before  Farm  Mortgage  Bankers'  Association, 
St.  Louis,  1915,  published  in  United  Slates  Investor,  XXVI  (1915),  1994-95. 


380  i'Ri\(:n'ij;s  of  monky  and  bankixo 

The  most  common  term  for  farm  mortj^aj^cs  throughout  the  corn 
belt  is  five  years,  with  a  good  many  loans  made  for  three  years  and 
some  for  as  long  a  time  as  ten  years.  In  the  South  the  greater  part 
of  the  farm  mortgage  loans  made  Ijy  banks  from  their  own  funds  are 
made  for  one  year  or  less;  loans  made  by  insurance  companies  and 
mortgage  companies  in  the  South,  however,  usually  run  for  a  longer 
period — from  three  to  ten  years.  In  the  Rocky  Mountain  and  Pacific 
states  farm  mortgage  loans  appear  to  be  made  rather  more  often  for 
a  term  of  three  years  or  over  than  for  a  shorter  period,  but  the  banks 
at  least  make  a  considerable  portion  of  their  loans  of  farm  mortgage 
security  for  a  period  of  one  year  or  less. 

The  great  majority  of  the  banks  making  farm  mortgage  loans  for 
a  term  of  three  years  or  over  give  the  borrower  the  privilege  of  paying 
any  part  of  the  principal  (in  even  hundreds)  at  any  time  or  on 
any  interest  date.  Some  banks,  however,  lend  at  a  low^er  rate  of 
interest  where  the  contract  does  not  carry  the  prepayment  privilege. 
Most  of  the  banks,  both  in  the  South  and  in  the  West,  which  make 
farm  mortgage  loans  for  one  year  or  less  report  that  they  usually  renew 
satisfactory  loans  when  desired;  some  of  them  require  the  payment 
of  a  part  of  the  principal,  but  the  majority  seem  to  be  willing  to  renew 
the  whole  amount  so  long  as  the  security  is  good. 

A  general  survey  of  conditions  in  the  country  as  a  whole  would 
seem  to  indicate  that  charges  for  interest  and  commissions  are  need- 
lessly and  unreasonably  high  in  many  localities.  Farmers  in  these 
localities  are  clearly  in  need  of  better  access  to  the  open  investment 
market.  Such  access  would  not  only  afford  more  reasonable  rates 
but  would  also  enable  the  farmer  to  obtain  mortgage  loans  for  longer 
periods  than  is  ordinarily  possible  at  the  present  time. 

Farm  mortgage  loans  are  obtained,  in  general,  from  four  important 
sources,  namely,  banks,  life  insurance  companies,  mortgage  or  loan 
companies,  and  private  individuals.  A  word  may  be  said  with  regard 
to  the  relative  importance  of  these  agencies. 

From  reports  furnished  by  the  tw^enty-seven  life  insurance  com- 
panies in  the  United  States  having  assets  above  $20,000,000  and  two- 
thirds  of  the  smaller  companies  we  have  computed  the  amount  of 
farm  mortgages  held  by  these  companies  in  each  state,  the  total  for 
all  states  being  $660,000,000.  We  have  also  estimated  the  amount 
of  farm  mortgages  held  by  banks  (including  trust  companies),  and, 
on  the  basis  of  the  thirteenth  census  figures,  the  total  amount  of  farm 
mortgage  loans  outstanding  in  each  state. 


AGRICULTURAL  CREDIT  38 1 

For  the  United  States  as  a  whole  the  Hfe  insurance  company 
mortgages  reported  up  to  the  present  lime  (October  5,  19 15)  represent 
about  one-fifth  of  the  estimated  total  for  all  farm  mortgages  and  the 
mortgages  held  by  banks  a  little  more  than  one-fifth.  The  reports 
yet  to  be  received  from  some  of  the  smaller  companies,  however, 
promise  to  bring  the  insurance  company  total  up  pretty  close  to  the 
estimated  bank  total. 

For  the  State  of  Georgia  the  figures  show  that  the  insurance  com- 
panies hold  farm  mortgages  amounting  to  nearly  one-half  the  esti- 
mated state  total  and  the  banks  a  little  more  than  one-fourth,  leaving 
only  a  quarter  of  the  total  for  mortgage  companies  and  pri\ate  indi- 
viduals. In  a  majority  of  the  other  southern  states  the  insurance 
companies  are  relatively  unimportant  as  sources  of  farm  mortgage 
loans,  though  they  have  made  considerable  gains  in  this  section  of  the 
country  even  within  the  last  two  years. 

For  the  Stale  of  Iowa  the  insurance  company  mortgages  repre- 
sent 7,2  per  cent  of  the  estimated  total  and  the  bank  mortgages  22 
per  cent;  for  Missouri  the  insurance  company  mortgages  represent 
26  per  cent  and  the  bank  mortgages  16  per  cent.  In  Nebraska  and 
Kansas,  however,  the  insurance  companies  are  more  important  as 
compared  with  the  banks,  reporting  in  each  case  more  than  one-third 
of  the  estimated  total,  while  the  banks  report  only  a  little  more  than 
one-twentieth.  In  Oklahoma,  likewise,  the  insurance  companies 
report  nearly  40  per  cent -of  the  total  and  the  banks  only  about  3  per 
cent,  and  in  Texas  the  banks  have  only  6  per  cent  of  the  total,  as  com- 
pared with  18  per  cent  for  the  insurance  companies.  In  Louisiana 
and  in  California,  on  the  other  hand,  the  banks  take  care  of  more  than 
40  per  cent  of  the  estimated  total  farm  mortgages,  while  the  insurance 
companies  report  less  than  7  per  cent. 

Life  insurance  companies  hold  very  few  mortgages  on  farms  in  the 
New  England  or  the  Middle  Atlantic  states;  and  a  considerable  por- 
tion of  the  farm  mortgages  held  ))>■  the  banks  in  some  of  the  New 
England  slates,  at  least,  are  mortgages  on  western  lands. 

No  definite  information  is  at  hand  relative  to  the  amount  of  farm 
mortgages  permanently  or  temporarily  held  by  mortgage  and  loan 
companies,  but  the  aggregate  is  without  doubt  ver>-  large.  A  numl)er 
of  foreign  companies  are  engaged  in  this  business  on  a  large  scale. 
Many  mortgage  companies  are  primarily  mortgage  brokers  or  com- 
mission merchants,  but  many  also  have  large  funds  jiermanently 
invested  in  farm  mortgages. 


382  PRINCIIMJ;S  OF  MONEY  AND  BANKING 

The  activities  of  the  mortgage  and  loan  companies  as  middlemen, 
purchasing  or  negotiating  mortgages  for  sale  to  other  investors,  have 
already  been  mentioned.  The  banks,  likewise,  in  many  localities 
negotiate  large  amounts  of  farm  mortgages  for  insurance  companies 
and  other  outside  investors,  in  addition  to  making  loans  from  their 
own  funds. 

The  banks  in  North  Dakota,  for  example,  which  hold  farm  mort- 
gages to  the  amount  of  $5,000,000  (estimated),  negotiate  for  other 
investors  about  $40,000,000  in  a  year,  or  eight  times  their  own  per- 
manent holdings.  The  banks  in  Nebraska,  likewise,  are  estimated  to 
handle  $33,000,000  in  farm  mortgage  business  for  other  investors,  or 
three  times  the  amount  of  their  permanent  holdings  ($11,000,000). 
In  general,  the  banks  in  most  of  the  states  west  of  the  Mississippi 
River  engage  rather  extensively  in  the  business  of  handling  farm 
mortgages  for  other  investors.  New  England  banks,  on  the  other 
hand,  do  practically  no  business  of  this  kind,  and  the  other  states  in 
the  northeastern  section  of  the  country  do  relatively  little.  In  the 
South,  likewise,  outside  of  the  states  of  Georgia,  Oklahoma,  and 
Texas,  the  volume  of  such  business  handled  by  the  banks  is  relatively 
small. 

186.    RATES  ON  FARM  LOANS' 

Substantially  no  statistics  of  rates  of  interest  paid  by  farmers  have 
been  collected  in  this  country  since  the  census  of  1890;  and  conse- 
quently it  was  especially  desirable  that  in  the  questionnaire  sent  out 
by  the  Department  of  Agriculture  the  correspondents  be  requested 
to  contribute  information  on  this  investigation  and  report  with  regard 
to  the  subject.  Six  questions  were  framed,  and  these  were  answered 
with  undoubted  understanding  as  to  the  meaning  of  the  questions. 
The  results  are  of  much  interest. 

The  questions  were  expressed  in  dual  form  in  such  a  way  as  to 
call  for  an  answer  for  agricultural  loans  and  also  for  loans  on  town 
and  city  real  estate,  the  circumstances  of  the  loans  being  otherwise 
substantially  the  same. 

The  interest  rates  on  the  bulk  of  the  purchase  money  throughout 
the  United  States  range  from  6  to  8  per  cent  in  the  case  of  farms, 
and  also  6  to  8  per  cent  in  the  case  of  town  and  city  real  estate.  Upon 
taking  account  of  the  differences  in  rates  of  interest  as  between  farm 

'  From  Report  of  United  States  Department  of  Agriculture,  191 2,  p.  30. 


AGRICULTURAL  CREDIT  383 

and  town  property,  it  is  discovered  that  in  the  case  of  purchase-monev 
loans  10  per  cent  of  the  responses  state  that  the  rates  are  higher  for 
farms  than  for  town  and  city  real  estate;  ^^  per  cent  report  that  the 
rates  are  lower  for  farms  than  for  town  and  city  real  estate,  and  57 
per  cent  report  that  there  is  no  difference  in  rates  of  interest  on 
purchase-money  loans  between  the  two  classes. 

Rates  of  interest  do  not  determine  the  total  cost  of  borrowing. 
There  are  commisions,  bonuses,  and  various  costs  and  expenses  that 
are  borne  by  the  borrower,  and  these,  if  added  to  the  rate  of  interest, 
often  considerably  increase  it.  It  was  reported  by  22  per  cent  of 
the  answering  correspondents  that  no  commissions  were  paid  in  their 
communities;  those  who  stated  that  commissions  were  paid  dis- 
agreed very  considerably.  The  country-  banker  stated  that  the  rate 
of  commission,  when  paid,  was  2  per  cent.  The  country-  merchant 
and  persons  of  other  occupations  constituting  another  class  of  corre- 
spondents reported  4  per  cent,  and  the  farmers  reported  5  per  cent. 
These  dififerences  seem  hardly  capable  of  reconciliation.  The  terms 
for  which  mortgages  are  made  usually  range  from  3  to  5  years,  and 
consequently  a  commission  of  from  2  to  5  per  cent  adds  appreciably 
to  the  annual  rate  of  interest.  If  paid  by  the  borrower,  the  average 
cost  of  abstracts  was  $11.40;  where  borrowers  paid  conveyancer  for 
drawing  papers  the  cost  was  S4.70.  In  94  per  cent  of  cases  the 
borrower  does  pay  cost  of  abstract.  Sometimes  the  borrower  was 
required  to  pay  the  registration  fee,  and,  when  he  did  so,  the  average 
cost  was  $1 .50. 

187.    EXPLANATION  OF  HIGH  RATES  TO  FARMERS' 
By  H.  S.  \AN  .\LSTINE 

A  year  or  two  ago  the  Kansas  Legislature  appointed  a  commission 
to  investigate  farm  values  and  rural  interest  rates,  and  their  report 
is  very  enlightening.  It  shows  that  the  average  rate  in  the  eastern 
counties  is  from  5  to  6  per  cent,  while  the  average  rate  in  the  extreme 
western  counties  is  about  10  per  cent. 

Now  this  difference  in  rate  is  not  because  the  money  lender  is 
taking  advantage  of  the  necessities  of  the  western  Kansas  farmer, 
but  is  based  wholly  upon  the  value  of  the  land  as  measured  by  the 
yardstick  of  experience. 

Adapted   from   an   address  before   Farm   MortgaRC   Bankers'   .Association, 
St.  Louis,  1Q15,  published  in  United  Stales  Investor,  XX\I  (1915),  i968-6g. 


384  PRINCirLES  OF  MONF>Y  AND  BANKING 

The  man  who  wants  the  maximum  security  is  willing  to  accept  the 
minimum  interest  rate,  and  lends  his  money  in  those  localities  where 
the  intrinsic  value  has  been  established  by  years  of  cultivation  and 
permanent  settlement,  while  the  money  lender  who  wants  a  higher 
rate  risks  his  money  on  loans  secured  by  lands  in  newer  and  less  tried 
localities,  where  the  hazard  and  the  rate  are  proportionally  greater. 
Statistics  of  other  states  show  the  same  tendencies.  In  1880  the 
average  rate  in  Iowa  was  8  per  cent,  and  in  1905,  5.18  per  cent.  It 
is  probable  that  the  high  average  rates  indicated  by  the  reports  of  the 
Federal  Government  are  largely  accounted  for  by  the  high  rates  pre- 
vailing in  western  and  southern  localities  now  in  process  of  develop- 
ment. Also  the  high  commissions  indicated  would  perhaps  not 
appear  unreasonable  if  the  local  conditions,  the  size  of  the  loan,  and 
the  quality  of  the  security  were  analyzed.  It  often  requires  as  much 
work  to  negotiate  a  small  loan  as  a  large  one,  which  makes  the  com- 
mission on  the  small  loan  appear  high  in  comparison  with  larger 
loans. 

188.    THE  WEAKNESS  OF  THE  PRESENT  MORTGAGE 
SYSTEISP 

By  C.  W.  THOMPSON 

Under  the  present  system  of  marketing  farm  mortgages  the  mort- 
gages themselves  are  generally  sold  direct,  so  that  it  is  necessary  to 
find  a  purchaser  who  wants  a  mortgage  of  a  given  amount,  running  for 
a  given  time  and  with  given  terms.  This  fact  renders  farm  mortgage 
investments  less  attractive  to  the  small  investor  and  also  the  large 
investor  who  wishes  to  have  his  capital  in  such  form  that  he  can 
readily  turn  it  into  cash  on  occasion,  since  the  mortgages,  drawn  for 
varying  amounts  and  falling  due  at  different  times,  will  sell  less  readily 
in  the  open  market  than  would  standardized  securities. 

The  farmer  himself  is  not  generally  in  a  position  to  find  a  purchaser 
for  his  own  mortgage.  He  lacks  proper  contact  with  the  investment 
world.  He  does  not  know  the  facts  regarding  securities  in  which  the 
investor  is  interested.  Neither  can  he  draw  up  loan  papers  and  pass 
on  titles.  Convenient  facilities  are  necessar\'  to  perform  all  these 
functions.  Reliable  and  suitable  standards  must  be  maintained  in 
these  matters.     To  this  end  the  selection  of  farm  mortgage  loans  must 

'  Adapted  from  an  address  before  Farm  ^Mortgage  Bankers'  Association, 
St.  Louis,  1915,  published  in  United  Slates  Investor,  XXVI  (1915),  1995. 


AGRICULTURAL  CREDIT  385 

be  placed  on  a  strictly  quality  basis.  The  farmer  with  security  of 
superior  quality  must  not  be  compelled  to  pay  commissions  and 
interest  rates  similar  to  those  charged  his  neighbor  whose  security  is 
much  inferior.  A  sound  credit  system  must  put  a  premium  on  mort- 
gage security  of  superior  quality.  It  is  for  the  latter  class  of  mortgage 
loans  that  adequate  provision  should  be  made  in  order  that  they  may 
reach  the  open  investment  market.  So  long,  however,  as  farm  mort- 
gage loans  are  offered  for  sale  in  their  original  form  there  will  be  a 
large  body  of  investors  who  cannot  be  reached.  To  meet  the  demands 
of  this  class  it  is  necessary-,  not  only  to  supply  mortgage  securities  of 
superior  quality,  but  also  to  offer  them  for  sale  in  the  proper  form. 
Farm  land  bonds  offer  these  advantages  as  compared  with  the  original 
mortgage  notes:  The  bonds  may  be  issued  in  even  amounts;  they 
run  for  convenient  periods  of  time;  they  afford  a  convenient  means 
for  collecting  the  interest,  and  they  relieve  the  investor  of  all  concern 
as  to  the  keeping  up  of  the  farm  land  security. 

189.     LEGAL  OBSTACLES  PREVENT  A  WIDE  ^lARKET  FOR 
FAR:M  MORTGAGES' 

By  H.  ^L  IL\NSON 

Farm  mortgage  bankers,  who  are  familiar  with  the  farm  mortgage 
investment  laws  of  the  eastern  and  New  England  states,  have  long 
cherished  the  hope  that  the  lawmakers  of  those  states  might  be  edu- 
cated to  lean  more  leniently  toward  the  farm  mortgages  of  other  states 
as  investments  for  the  funds  of  their  estates,  trust  companies,  and 
savings  banks.  To  introduce,  or  reopen,  the  subject  the  association 
has  sent  out  more  than  1,200  letters  to  bank  commissioners,  trust 
company  and  savings  bank  officials,  legislators,  and  others  in  the  East, 
setting  forth  the  association's  point  of  view  and  to  acquaint  itself  with 
eastern  sentiment  on  the  subject.  The  results  of  this  effort  are  not 
at  all  discouraging. 

190.     THE  TROUBLE  WITH  THE  AVERAGE  FARMER' 

By  a.  L.  ROGERS 

Dear  Professor:  I  have  filled  out  the  inclosed  questions  to  the 
best  of  my  ability  and  according  to  the  manner  in  which  agricultural 
credits  have  been  handled  in  this  section.  The  system  has  been  chan- 
ging year  by  year  since  the  pioneer  days  of  twenty-five  years  ago,  land 

■  From  UtiUed  Slates  Investor,  XXVI  (1915),  1967. 

'Taken  from  Bullock,  Agricultural  Credit,  pp.  11 2-14.  (H.  W.  Wilson  Co., 
1915-) 


386  PRINCIPLES  OF  MONKY  AND  BANKING 

values  are  becoming  more  settled,  the  possibilities  of  safe  farming  are 
becoming  Tnore  detlnite,  and  therefore  interest  rates  are  gradually 
getting  lower  as  speculative  conditions  disappear.  This  is,  at  present, 
a  one-crop  wheat-producing  country;  one-half  the  land  is  summer 
fallowed  each  year;  consequently  there  is  but  one  pay-day  each  year, 
and  the  farmer  gets  his  credits  on  that  basis.  The  whole  system  is 
inef^cient  and  uneconomic.  Very  few  of  them  have  made  much 
money  outside  of  the  rise  in  values  of  their  land.  They  are  all  farm- 
ing on  too  big  a  scale.  Under  the  present  system  they  are  destructive 
as  hell  in  their  methods.  They  are  going  into  debt  buying  more  land, 
gas  traction-engines,  and  lo-bottom  plows.  No  rotation  or  diversifi- 
cation of  crops,  just  wheat,  wheat,  wheat;  simply  mining  the  soils  and 
selling  the  surface  of  their  farms.  The  greatest  trouble  with  the 
average  farmer  is  he  is  getting  too  much  credit;  and  the  bankers  and 
merchants  are  due  some  consideration  and  also  some  condemnation 
in  taking  long  chances  in  their  desire  to  help  the  farmer  and  develop 
the  country,  even  though  they  do  it  with  the  idea  of  making  a  profit. 
One  great  trouble  is  the  American  farmer  is  not  an  agriculturist,  but 
a  speculator  in  lands;  he  values  the  soil  to  exploit  it,  and  not  for  its 
true  producing  qualities.  I  need  no  better  proof  of  this  assertion  than 
statistics  from  the  Middle  and  New  England  states,  where  you  can 
buy  farms  for  less  than  the  costs  of  improvements  on  them,  I  know 
plenty  of  men  of  wealth  who  would  be  glad  to  make  farm  loans  at 
6  per  cent  on  twenty-five  or  fifty  years'  time  under  the  amortization 
plan  of  retiring  the  principal  and  interest,  but  men  of  capital  hesitate 
in  taking  chances  on  the  ignorant,  shiftless,  and  speculative  methods 
of  the  average  American  farmer;  the  land  would  be  worn  out  before 
the  mortgage  becomes  due. 

There  is  an  immutable  law  in  loaning  money :  the  greater  the  risk 
the  higher  the  rate;  and  whenever  the  American  farmer  qualifies 
himself  and  his  conditions  the  same  as  the  German  and  French  farmer 
has  done  he  will  get  just  as  good  accommodations,  but  not  until  then. 
Under  the  laws  of  compensation  most  ever^'one  gets  what  is  coming 
to  him.  The  rich  man  gets  his  ice  in  the  summer  and  the  poor  man 
gets  his  ice  in  the  winter,  but  they  all  get  ice.  A  bunch  of  farmers 
came  into  my  office  the  other  day  kicking  on  the  rates  of  interest. 
I  informed  them  that  not  one  of  them  was  a  genuine  farmer;  they  were 
simply  speculators;  they  demanded  loans  up  to  almost  the  actual 
value  of  the  land,  based  on  their  earning  capacity;  they  expected  to 
scratch  around  on  the  surface  of  the  ground  to  make  expenses  and  no 


AGRICULTURAL  CREDIT  387 

improvements,  hoping  and  expecting  that  some  sucker  would  come 
along  in  a  year  or  two  and  give  them  twice  what  they  paid  for  it. 
The  money  loaner  expects  and  demands  the  highest  rate  of  interest 
he  can  write  when  he  goes  into  that  kind  of  a  partnership.  I  further 
informed  these  gentlemen  that  there  would  some  day  be  an  agricul- 
tural people  living  in  this  section  who  would  be  entitled  to  a  very 
low  rate  of  interest,  but  those  people  would  not  come  to  the  market 
in  an  automobile;  they  would  stick  to  the  dead  axle  wagon,  and  every 
time  they  came  to  town  it  would  be  loaded  with  something  to  sell, 
and  when  they  went  home  they  would  haul  back  a  load  of  manure 
to  strengthen  their  collateral,  so  that  their  land  would  be  worth  as 
much  when  the  mortgage  became  due  as  it  was  the  day  it  was  written, 
and  thereby  justify  a  demand  for  lower  rates  of  interest.  A  farmer 
to  make  money  has  got  to  learn  to  tote  both  ways,  but  the  biggest 
load  must  go  toward  the  market.  The  wheat  farmer  works  hard  two 
months  in  the  spring  and  two  months  in  the  fall,  and  the  balance  of 
the  time  he  sits  around  kicking  the  grain  man,  the  transportation  man, 
the  middleman,  and  the  banker,  when  he  should  be  milking  cows  and 
feeding  hogs  and  doing  diversitied  farming,  thereby  maintaining  the 
fertility  of  the  soil  and  having  something  to  sell  when  he  comes  to 
town  to  buy  his  sui)plies.  The  silo  will  make  a  dairy  country  out  of 
eastern  Washington  and  double  the  values  and  producing  qualities  of 
the  land.  Some  of  the  farmers  are  waking  up  to  this  fact,  and  more 
will  follow  later  on. 

Long-time  loans  secured  by  mortgages  on  land  should  not  be  made 
except  for  the  purchase  price  or  permanent  improvements  on  same. 
The  farmers  of  this  section  can,  at  all  times,  get  any  reasonable  amount 
on  their  lands  on  three  or  five  years'  time  at  8  per  cent,  with  a  i)rivilege 
of  paying  Sioo,  or  any  multiple  thereof,  on  the  principal  at  any 
interest-payment  period,  and  all  papers  generally  become  due  in  the 
fall,  after  harvest,  for  their  convenience.  So  much  for  long-time 
credits. 

191.    THE  LEGITIMATE  PURPOSES  OF  MORTGAGE  LOANS' 

By  EDMUND  F.  ADAMS 

The  purposes  for  which  mortgage  loans  may  be  safely  granted, 
and,  therefore,  for  which  only  they  should  be  granted,  are,  first, 
land;  second,  permanent  productive  improvements,  such  as  ordinary 

'  Adapted  from  "Credit  Facililies  for  Rural  Districts,"  SoitiiJ  Cunrncy,  \III 
(1901),  167-68. 


388  PRlNCiri.ES  OF  MONEY  AND  BANKING 

fencing,  drainage,  or  irrigation;  third,  buildings  reciuired  for  the  shelter 
of  crops  and  stock  or  dwellings  required  in  conducting  the  necessary 
operations  of  the  farm,  and  such  as  the  owner  could  and  would  buy 
if  they  were  not  on  the  farm  and  he  could  obtain  them.  No  farmer 
ought  to  borrow  money  to  build  a  fine  house,  or  expensive  furniture, 
or  ornamentation,  and  no  banker  ought  to  lend  it  to  him  for  those 
purposes.  It  is  risky  to  lend  to  pay  off  floating  debt,  except  such  as 
has  been  caused  by  sudden  calamity.  The  fact  that  a  farmer  desires 
to  build  a  house  beyond  his  means  or  that  he  has  incurred  a  floating 
debt  which  he  cannot  pay  is  warning  that  he  is  unthrifty,  and,  there- 
fore, unlikely  to  meet  his  engagements.  He  cannot  expect  to  borrow 
at  low  rates.  If  in  any  case  this  is  not  true,  the  burden  of  proof  is 
on  the  borrower.  All  mortgage  loans  are  unsafe  whose  proceeds  are 
not  so  applied  to  the  property  pledged  as  to  increase  its  income- 
producing  power.  A  loan  to  build  a  hotel  would  be  proper  and  safe 
when  a  loan  of  the  same  amount  to  build  a  fine  farmhouse  on  the  same 
property  would  be  improper  and  unsafe.  Loans  to  a  soil-robbing 
farmer  have  always  in  them  an  element  of  danger,  because  the  land 
is  constantly  deteriorating.  The  safe  limit  of  a  mortgage  loan  on 
farm  land  is  such  that  the  interest  charge  can  be  paid  with  one-half 
the  annual  rental  of  at  least  five  years,  with  covenants  to  protect  the 
land  from  deterioration  from  soil  robbing.  It  is  to  the  interests  of 
both  borrower  and  lender  that  mortgage  loans  shall  be  made  on  very 
long  time,  but  always  payable  at  the  option  of  the  borrower,  at  any 
time,  by  instalments  or  otherwise.  For  loans,  either  mortgage  or 
temporary,  made  under  the  restrictions  here  outhned,  there  is  and 
always  will  be  abundant  capital  available  at  rates  of  interest  which 
farmers  can  pay,  provided  only  that  farmers  induce  the  enactment  of 
such  legislation  as  shall  make  the  flow  of  capital  natural  and  inex- 
pensive. For  all  hindrances,  annoyances,  or  unusual  difficulties  in 
enforcing  payment,  or  overtaxation,  the  borrower  must  pay,  as  well 
as  for  all  risks  which  he  creates  by  speculative  operations.  The  laws 
of  many  states  enacted  with  the  approval  of  farmers,  so  drive  capital 
away  from  them  that  they  can  hardly  get  it  at  any  price. 

The  purposes  for  which  mortgage  loans  are  actually  employed  in 
this  country  are  stated  in  the  mortgage  volume  of  the  Report  of  the 
Census  of  i8go,  pages  279,  280,  and  896.  The  following  extract  will 
give  some  idea  of  the  variety  of  purposes: 

"People  mortgage  their  real  estate  to  get  married,  to  obtain 
divorces,  and  to  pay  alimony;  to  pay  their  taxes,  to  pay  rent,  and  to 


AGRICULTURAL  CREDIT  389 

pay  the  money-lender.  They  raise  money  by  mortgage  in  order  that 
they  may  travel  and  that  they  may  expend  it  in  extravagant  living; 
they  speculate  with  it  and  they  re-lend  it.  Politicians  pay  their 
political  debts  by  means  of  mortgages.  The  guileless  are  deceived 
into  buying  worthless  patents.  Wives  pay  the  debts  of  their  husbands 
and  educate  them  for  the  ministry.  Men  mortgage  their  real  estate 
to  pay  their  physician,  their  undertaker,  and  their  lawyers,  to  help 
their  friends  and  relatives,  to  make  good  their  defalcations,  to  educate 
their  children  and  support  their  parents." 

Of  course  money  for  such  purposes  must  be  well  paid  for,  but  while 
there  are  many  such  loans,  the  great  majority,  of  course,  are  for  proper 
business  purposes.  The  census  experts  group  some  of  the  foregoing 
and  many  others  into  a  class  which  they  term  "Calamity  Loans." 
They  estimate  these  as  5 .  40  per  cent  of  the  number  of  mortgage  loans 
and  1 .  95  per  cent  of  the  amount. 

192.    AGRICULTURAL  CREDIT  INSTITUTIONS' 
By  R.  B.  van  CORTLANDT 

Our  present  system  of  borrowing  on  land  is  by  mortgages  running 
from  three  to  five  years,  the  entire  principal  coming  due  at  one  time. 
This  is  expensive,  involving  renewals,  and  dangerous  from  the  possi- 
bility of  the  mortgage  falling  due  at  a  time  of  restricted  credit,  so  that 
it  cannot  be  renewed.  On  the  continent  of  Europe  this  business  is 
handled  by  so-called  land-mortgage  banks,  or  rather  associations. 
These  associations  are  formed  along  varying  lines,  some  with  stock 
like  the  great  French  institution,  the  Credit  Foncier;  some  having  no 
stock,  like  the  German  Landschaften;  some  being  guaranteed  by  a 
state  or  province,  as  in  Austria,  while  the  principal  one  in  Hungary 
combines  ingeniously  various  features  peculiar  to  itself.  These  insti- 
tutions are  formed  along  certain  general  fundamental  lines  as  follows: 

The  mortgages  granted  are  pledged  for  the  security  of  bonds  which 
the  institution  issues  and  sells  in  the  general  market.  These  bonds 
have  no  fixed  maturity,  but  can  be  retired  at  par  or  some  small  pre- 
mium at  any  time.  When  the  borrower  mortgages  his  land  to  the 
bank,  he  agrees  to  pay  a  certain  fixed  sum  semiannually.  This  is 
called  the  "Annuity,"  and  is  composed  of  the  annual  interest  plus  an 
amount,  generally  one-half  per  cent,  toward  the  reduction  of  the  prin- 
cipal of  the  debt  and  known  as  "Amortization,"  and  an  additional 

'  Adapted  from  North  American  Review,  CXCIX  (1914),  585-88. 


390  PRINCIPLES  OF  MONEY  AND  BANKING 

amount,  about  one-quarter  per  cent,  toward  the  expenses  of  the  bank. 
The  borrower,  therefore,  at  once  begins  to  extinguish  the  principal 
of  the  debt,  and  as  each  year  the  principal  decreases,  the  interest,  of 
course,  decreases  also,  and  the  annuity  being  fixed,  the  proportion  of 
it  applicable  toward  the  extinction  of  the  mortgage  increases.  Thus 
it  happens  that,  beginning  with  a  payment  of  one-half  toward  princi- 
pal, the  mortgage  bearing  4  per  cent  to  4I  per  cent,  which  are  the 
general  rates,  the  entire  debt  is  extinguished  in  between  fifty  and 
sixty  years. 

The  borrower  has  the  right  at  any  time  to  pay  off  the  mortgage, 
a  small  penalty  being  generally  exacted;  but  the  lending  institution 
cannot  require  payment  from  the  mortgagor,  thus  guarding  against 
any  higher  rate  of  interest  being  exacted  during  the  life  of  the  loan; 
whereas,  should  interest  rates  fall,  the  borrower  can  anticipate  the 
payment  of  the  mortgage  and  secure  the  benefit  of  the  lower  rate  of 
interest.  If  payment  of  a  mortgage  is  anticipated,  or  when  the  semi- 
annual payments  are  received  by  the  bank,  it  enters  the  market  and 
buys  or  retires  a  corresponding  amount  of  its  bonds,  so  that  its  out- 
standing bonds  never  exceed  in  the  aggregate  the  total  of  the  mort- 
gages it  holds  against  them.  This  has  the  advantage  of  making  a 
constant  market  for  the  bonds,  and  there  is  no  necessity  of  sinking 
funds  for  special  mortgages,  as  they  are  under  a  general  pledge. 
These  banks  do  not  compete  with  commercial  banks. 

193.     AN  AMORTIZATION  LOAN' 

An  amortization  loan  is  illustrated  by  the  table  on  pp.  391,  392. 

At  the  end  of  the  thirty  years  the  borrower  has  paid,  in  principal 
and  interest,  $2,100.  Under  the  ordinary  plan  the  borrower  of  $1,000 
at  5  per  cent  would  have  paid  out  $2,500,  exclusive  of  commissions 
and  legal  expenses,  which  are  saved  under  the  Woodruff  plan. 

There  are  other  advantages  of  importance  also.  Each  semi- 
annual payment  is  so  small  that  the  average  farmer  can  borrow  the 
amount  necessary  from  his  local  bank  if  he  is  temporarily  out  of  funds. 
As  the  amount  of  each  payment  will  in  no  case  exceed  if  per  cent  of 
the  value  of  the  land,  he  should  always  be  able  to  meet  the  payments 
out  of  current  proceeds  of  the  land  itself.  On  any  interest  date  the 
farmer  is  allowed  to  make  partial  payments  on  the  principal,  thus 
shortening  the  duration  of  the  loan. 

'  Taken  from  circular  describing  plan  of  the  Woodrufi  Trust  Company, 
Joliet,  111. 


AGRICULTURAL  CREDIT 


391 


Amount  of  Loan,  Si.ooo. 00.    Length  of  Term,  30  Ve.\rs.     Rate  of  Interest, 
5  Per  Cent.     Semiannual  Payments,  $35.00. 


Semiannual 
Periods 


Interest  at 
S  Per  Cent 


Paid  on 
Principal 


Expenses  and 
Pro6ts 


Total  Semi- 
lannual  Payment 


Amount  of 

Principal  Still 

Unpaid 


$25.00000 
24.81615 
24.62770 

24 -43455 
24.23656 
24.03362 
23.82561 
23.61241 

23-39387 
23.16986 
22.94026 
22.70492 
22.46369 
22.21643 
21.96299 
21.70322 

21.43695 
21. 16402 
20.88427 
20  59753 
20.30362 
20.00236 

9-69356 
!9-37705 
[9.05263 

8.72010 

8.37925 
;8. 02988 
7.67178 
7.30472 
6.92849 
54285 

14757 
74241 
32712 
90145 
46514 
01791 

3-55951 
3.08965 
2 . 60804 
2. I 1439 
I . 60840 
1.08976 
0.55816 
0.01326 
9  45474 
8.88226 

8-29547 
7 . 69400 
7.07750 


7  35400 

7-53785 
7.72630 

7  91945 
8.11744 
8.32038 
8.52839 

8.74159 
8.96013 
9. 18414 
9  41374 
9 . 64908 
9.89031 

0-13757 
0.39101 
0.65078 
0.91705 
I . 18998 
I  46973 
I  75647 
2 . 05038 
2.-35164 
2 . 66044 
97695 
30137 
63390 
97475 
32412 
68222 
04928 
42551 
81115 
6 . 20643 
6.61159 
7.02688 

7.45255 
7 . 88886 
8.33609 

8  79449 

9  26435 
9  -  74596 

20. 23961 
20.74560 
21 . 26424 
21.79584 
22.43074 
22.89926 

23  47174 
24-05853 
24.66000 
25.27650 


$2,646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2 .  646 
2.646 


$35 -00 
35-00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35.00 
35  00 
35  00 
35  00 
35-00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35-00 
3500 
35  00 
35  00 
35-00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 
35  00 


$992 
985 
977 
969 
961 
953 
944 
935 
926 

917 
908 


878 
868 

857 
846 

835 
823 
812 
800 
787 
775 
762 

748 
735 
721 
706 
692 
677 
661 

645 
629 

613 
596 
578 
560 
542 
523 
504 
484 
464 
443 
4:2 
400 
378 
355 
331 
307 
283 
257 


64600 
10815 
38185 
46240 
34496 
02458 
49619 
75460 

79447 
61033 
19659 
54751 
65720 

51963 
12862 

47784 
56079 
37081 
90108 
14461 
09423 
74259 
08215 
10520 
80383 
16993 
19518 
87106 
18884 
13956 
71405 
90290 
69647 
08488 
05800 
60545 
71659 
38050 
58601 
32166 
57570 
33<>OQ 
59049 

32(>25 

53041 
18967 
29041 
81867 

76014 
IOOI4 

82364 


392 


I'RINCIPLKS  OF  MONEY  AND  BANKING 


Amount  of  Loan,  $1,000.00.    Length  of  Term,  30  Years.    Rate  of  Interest, 
5  Per  Cent.    Semiannual  Payments,  $35.00. — Continued 


Semiannual 
Periods 

Interest  at 
S  Per  Cent 

Paid  on 
Principal 

Expenses  and 
Profits 

Total  Semi- 
annual Payment 

Amount  of 

Principal  Still 

Unr^aid 

52 

53 

54 

55 

S6 

57 

58 

59 :■ 

60 

6 
5 
5 
4 
3 
3 
2 
I 

44559 
79788 
13398 
45343 
75596 
04101 
30819 

55705 
86922 

25.90841 
26.55612 
27.22002 
27.90052 
28.59804 
29.31299 
30.04581 
30.79695 
31.48478 

2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 
2.646 

35  00 
35-00 
35-00 
35  00 
35  00 
35  00 
35-00 
35  00 
35  00 

231-91523 
205-35911 
178.13909 
150.23857 
121.64053 

92.32754 

62.28173 

31.48478 

0.00000 

Totals.  . 

$941 • 24 

$r,ooo.oo 

$158.76 

$2,100.00 

194.    EUROPEAN  SYSTEMS  NOT  NEEDED  IN  THE  UNITED 

STATES' 

By-  henry  WALLACE 

What  can  you  do  for  the  landowner  in  such  states  as  Iowa  or 
Illinois  ?  Frankly,  I  don't  see  anything  you  can  do  that  you  are  not 
doing  already.  In  Iowa,  for  example,  loans  on  farms  range  from  5 
per  cent  to  5I  net,  probably  6  to  the  farmer.  When  farmers  in  these 
states  quit  investing  in  outside  states  they  will  take  care  of  their  bor- 
rowing neighbors  on  a  smaller  margin  of  security  than  you  will  and 
will  eventually  put  you  out  of  business. 

The  local  banker,  and  often  without  expense,  lends  to  the  farmer 
and  takes  a  mortgage.  The  larger  bank  in  the  city  takes  it  off  his 
hands,  or  the  insurance  companies  East  and  West.  In  fact,  these 
companies  are  now  eager  for  mortgages  at  5  per  cent  net  to  them.  In 
short,  with  two- thirds  of  the  banks  in  Iowa  owned  or  at  least  controlled 
by  farmers,  it  seems  to  me  that  they  have  about  all  the  credit  they 
need. 

The  rate  of  interest  might  be  reduced  i  per  cent,  if  it  were  practical 
to  organize  landschaften  in  these  corn  states.  In  fact,  we  can  readily 
see  how  a  few  large  landowners,  by  combining  their  credit  and  increas- 
ing it  by  becoming  mutually  liable  for  the  debts  of  their  organization, 
might  secure  a  reduction  of  i  per  cent  per  annum.  With  our  mLxed 
population,  however,  this  is  not  practical.  The  average  loan  in  Iowa 
— and  I  presume  it  is  so  in  Illinois,  eastern  Kansas,  and  Nebraska — 
is  about  $4,000,  and  the  average  farmer  would  gladly  pay  $40  a  year 

'  Adapted  from  United  States  Investor,  XXVI  (1915),  1986-87. 


AGRICULTURAL  CREDIT  393 

for  liberty  to  do  just  as  he  pleases  with  the  money,  without  asking 
the  advice  or  consent  of  his  neighbor.  He  would  regard  independence 
as  cheap  at  that  price. 

What  can  be  done  for  the  tenant  ?  Nothing  that  I  can  sec  until 
the  tenant  becomes  a  somewhat  permanent  fixture  in  the  community. 
And  he  will  not  become  a  permanent  fixture  so  long  as  he  is  renting  on 
a  short  lease,  nor  until  his  relations  with  the  landlord  are  such  that 
he  can  take  root  in  the  conrmiunity  and  become  part  of  the  social  order. 
You  cannot  build  a  high  civilization,  nor  any  other  thing,  on  a  shifting, 
changing  population.  When  our  population  becomes  stable,  as  the 
populations  of  the  older  countries  have  become,  and  when  landlords 
and  tenants  are  better  acquainted  with  each  other  and  have  become 
parts  of  the  social  system,  it  may  then  be  possible  to  organize  credit 
associations  under  the  Raiffeisen  system,  by  which  money  can  be 
secured  at  lower  rates  and  for  longer  periods  than  now.  For  then  it 
will  not  be  so  much  a  matter  of  importance  what  a  man  has  as  what 
he  is. 

The  poorest  of  the  poor  in  the  congested  districts  of  Ireland  can 
borrow  money  from  their  credit  banks  at  as  low  a  rate  as  the  best 
farmer  in  Illinois  and  Iowa,  but  it  is  in  the  small  amounts  suited  to  his 
needs,  and  because  of  limited  or  unlimited  liability  and  supersision 
by  a  committee.     That  time  may  come  with  us,  but  it  is  not  now. 

Can  you  imagine  an  Iowa  farmer,  even  as  a  renter,  allowing  a 
committee  of  his  credit  bank  to  determine  whether  the  investment  he 
proposes  to  make  of  the  borrowed  money  is  a  good  investment  for 
productive  purposes,  whether  he  buys  cattle  at  the  right  price,  feeds 
or  cares  for  them  properly,  and  when  he  shall  sell  them  ? 

What  many  farmers  want  is  facilities  for  getting  in  debt.  What 
they  need  is  facilities  for  getting  out  of  debt.  If  mortgage  companies 
can  provide  a  form  of  mortgage  that  will  extend  the  time  of  payment 
from  five  years  to  ten,  fifteen,  or  twenty,  it  would  be  a  mighty  help  to 
men  who  have  borrowed  $50  to  $100  an  acre  on  lands  in  the  corn  belt. 

195.    A  BETTER  LEASING  SYSTEM  NEEDED' 
By  HENRY  WALLACE 

Cheap  money,  as  it  is  proposed  to  furnish  it  on  land  security, 
would  simply  increase  the  speculative  fever  and  boost  farm  lands 
until  they  would  not  pay  i  per  cent  on  the  investment.     We  have 

'  Adapted  from  a  letter  to  Commercial  and  Financial  Chronicle,  XCVII  (1913), 
10S2. 


394  PRINCIPLES  OF  MONEY  AND  BANKING 

entirely  too  much  speculation  now.  Nor  would  it  help  the  renter, 
comprising  about  40  per  cent  of  the  farmers,  a  little  bit,  he  having 
no  security  to  ofTer. 

Ex-Secretary  James  Wilson  and  myself  spent  two  months  in  Great 
Britain  last  summer  making  an  investigation  of  agricultural  conditions 
there. 

The  farm-credit  systems  of  the  Old  World  will  not  do  here  at  all, 
at  least  not  now  or  in  the  near  future,  for  the  reason  that  they 
involve  unlimited  liability,  and,  furthermore,  on  short-time  loans 
require  supervision  of  the  farmer  who  seeks  the  loan.  They  are  a 
splendid  thing  for  the  poor  farmers  in  the  Old  Country,  who  are  forced 
by  circumstances  to  assume  unlimited  liability,  to  limit  loans  to  pro- 
ductive purposes,  and  to  require  supervision  by  a  committee  of  the 
association. 

Imagine  a  western  farmer  having  a  committee  decide  whether  he 
ought  to  buy  a  cow  or  not,  to  see  that  he  buys  the  right  kind  of  a  cow, 
gets  her  at  the  right  price,  and  then  feeds  her  right.  Imagine  an  Iowa 
farmer  in  order  to  secure  a  loan  having  a  committee  see  whether  or 
not  he  should  buy  a  lot  of  feeding  steers,  and  then  see  that  he  feeds 
them  on  the  most  approved  methods.  Neither  would  the  western 
farmer  consent  or  be  liable  for  the  debts  of  a  "  landschaf ten  associa- 
tion." It  is  doubtful  if  he  would  do  so  even  to  the  extent  of  his  own 
borrowing. 

The  real  trouble  with  the  western  farmer  is  with  our  leasing 
system,  which  in  the  majority  of  cases  is  simply  a  conspiracy  between 
the  landlord  and  the  tenant  to  rob  the  land  and  divide  the  loot.  In 
the  Old  Country  the  government  provides  for  the  maintenance  of 
soil  fertility  by  giving  the  tenant  the  right  to  recover  for  any  fertility 
he  has  put  in  the  soil  which  he  has  not  had  opportunity  to  recover. 
On  the  other  hand,  it  forbids  the  tenant  to  sell  certain  crops  off  the 
land  unless  he  restores  to  the  land  the  manurial  value  of  the  crop  sold. 
For  this  reason  tenants  are  not  anxious  to  change  farms  and  the  land- 
lord does  not  often  want  to  make  a  change. 

With  long  leases  and  the  rights  of  the  land  and  the  tenant 
secured  there  will  be  no  need  for  any  additional  facilities  for  borrow- 
ing money. 


AGRICULTURAL  CREDIT  395 

196.     THE  JEWISH  AGRICULTURAL  AND  INDUSTRIAL  AID 

SOCIETY' 

By  GEORGE  W.  SIMON 

In  the  matter  of  rural  credits  there  are  some  who  firmly  hold  that, 
our  people  being  different  and  conditions  here  being  different,  we 
cannot  transplant  to  this  country  the  European  rural  credit  systems; 
that  it  is  impractical  and  even  impossible.  It  might  be  of  interest, 
therefore,  and  to  some  even  a  revelation,  to  learn  that  here  in  the 
United  States  the  French  Credit  Foncier  system,  or  long-term  rural 
credit,  has  been  in  operation  for  the  past  twenty-four  years,  while  the 
German  Raiffeisen  system,  or  short-term  rural  credit,  was  established 
in  this  country  in  1909,  and  has  been  in  actual  operation  since  191 1. 
This  work  has  been  done  under  the  auspices  of  a  philanthropic  organi- 
zation, subsidized  by  the  Baron  de  Hirsch  Foundation,  namely,  the 
Jewish  Agricultural  and  Industrial  Aid  Society. 

The  Baron  de  Hirsch  Fund  was  established  in  1890,  and  from  its 
inception  has  made  loans  to  Jewish  farmers  in  the  United  States  at  a 
moderate  rate  of  interest  and  upon  easy  terms  of  repaj-ment.  The 
great  increase  in  Jewish  immigration  to  this  country  naturally 
increased  the  demand  upon  the  activities  of  the  Fund,  and  new  and 
more  urgent  problems  arose.  In  view  of  the  growing  importance  of 
the  agricultural  phase  of  the  activities  of  the  Fund,  the  Board  of 
Trustees  found  it  necessary  to  create  a  special  organization  for  that 
purpose.  Accordingly,  in  1900,  the  Jewish  Agricultural  and  Indus- 
trial Aid  Society  was  incorporated.  The  chief  object  of  the  society 
is  to  render  financial  assistance  to  Jewish  immigrants  who  wish  to 
become  farmers,  or  to  enable  those  who  are  already  on  farms  to  main- 
tain their  foothold.  In  view  of  the  fact  that  our  resources  are  limited, 
we  do  not,  as  a  rule,  make  loans  on  first  mortgages,  but  on  second, 
and  even  third  and  fourth  mortgages,  supplemented  sometimes  by  a 
chattel  mortgage  or  other  collateral  security.  Loans  are  made  either 
toward  the  purchase  of  a  farm  or  its  equipment,  or  both.  Loans  arc 
likewise  made  to  those  already  on  the  farm  to  enable  them  to  make 
improvements,  to  buy  additional  equipment,  or  for  like  purposes. 

During  the  fourteen  years  it  has  been  in  existence  our  society  has 
granted,  in  round  numbers,  3,000  loans,  aggregating  $2,000,000.  The 
loans  are  made  at  4  per  cent  interest,  on  long-term  mortgages,  running 
on  an  average  for  ten  years.     The  terms  of  repayment  arc  based 

'  Ad;vi)tcd  from  an  address  before  the  Second  National  Confcrcnec  on  Markcl- 

inj;  and  Farm  Credits,  April  17,  1914.     (Unpublished.) 


396  PRINCIPLES  OF  MONEY  AND  BANKING 

largely  upon  the  ability  of  the  farmer  and  the  earning  capacity  of  the 
farm.  The  character  of  the  farmer  is  taken  into  as  much  considera- 
tion as  the  real  estate  security.  The  proof  of  the  soundness  of  our 
experiment  is  that,  in  spite  of  the  inferior  security  which  we  accept, 
our  losses,  during  the  fourteen  years,  were  less  than  2I  per  cent  and 
the  repayments  30  per  cent.  The  payments  to  the  society  for  the 
fiscal  year  ended  December  31,  1913,  amounted  to  $100,091 .04  on  the 
principal  and  $30,292 .  18  in  interest. 

Our  society  made  loans  in  32  states  and  in  Canada;  thus  our 
operations  cover  a  much  wider  territory  than  that  of  all  the  European 
land-credit  banks  combined.  It  proves  that  the  rural  credit  system 
is  practical  and  adaptable  in  every  state  of  the  Union.  The  time  of 
free  land  being  past,  land  is  now  a  good  security,  provided  we  have 
good  farmers  on  it.  I  believe  that  land  is  worth  as  much  as  the  man 
who  is  on  it,  and  we  do  have  some  good  men  on  our  farms. 

Our  experience  has  shown  that,  after  receiving  loans  on  second 
and  third  mortgages  on  easy  payments,  our  farmers  were  still  strug- 
gling against  trying  difficulties.  There  arose  in  our  rural  districts  a 
new  class  of  money-lenders,  who  gradually  preyed  upon  the  farmers 
until  they  had  them  completely  in  their  power.  Sometimes  they  are 
the  local  storekeepers,  sometimes  "just  neighbors."  Like  the  hook- 
worm prevailing  in  the  South,  these  money-lenders  infest  the  body 
of  our  farmers  and  sap  all  their  energy  and  strength.  To  free  the 
Jewish  farming  communities  from  these  parasites  we  decided  to 
organize  among  them  co-operative  agricultural  associations,  by  means 
of  which  the  farmers  could  help  one  another. 

It  was  not  very  difficult  to  introduce  these  credit  unions  among 
our  farmers,  for  we  had  already  organized  the  farmers  into  local 
groups  or  societies.  This  we  succeeded  in  doing  through  the  activity 
of  our  Educational  Department,  which  issues  the  Jewish  Farmer,  a 
monthly  periodical  published  in  Yiddish,  the  editorial  staff  of  which 
has  charge  of  the  extension  work.  The  local  societies  were  afterward 
centralized  into  a  Federation  of  Jewish  Farmers  of  America.  Through 
this  federation  we  spread  the  gospel  of  co-operation  and  introduced 
the  Raiffeisen  system. 

197.     STATE  RURAL  CREDIT  LEGISLATION' 

Legislation  dealing  with  rural  credits  has  thus  far  been  enacted  in 
some  fourteen  States.  Briefly,  and  roughly,  the  State  laws  are 
designed  to  make  available  the  cash  and  credit  of  the  State  through 

'  Adapted  from  the  0«//oo^,  financial  advertising  section,  February  23, 1916. 


AGRICULTURAL  CREDIT  397 

the  creation  of  land  banks,  the  stock  of  which  is  owned  by  loan  asso- 
ciations. Encouragement  is  given  to  building  and  loan,  farmers'  loan, 
land  and  loan,  and  rural  savings  and  loan  associations,  and  credit 
unions  and  co-operative  banks  are  authorized.  These  institutions  or 
associations,  which  are  purely  mutual  and  co-operative,  receive  the 
applications,  grant  the  loans,  execute  the  mortgages,  and  deposit  them 
with  the  land  bank.  The  land  bank,  acting  as  between  the  State  and 
the  borrower,  deposits  the  collected  mortgages  with  the  State  comp- 
troller and  issues  against  them  bonds  bearing  a  lower  rate  of  interest 
than  the  collateral.  These  bonds  are  considered  legal  investments  for 
savings  banks  and  trust  funds,  and  they  are,  no  doubt,  exempt  from 
personal  taxation  in  the  State  of  issue.  The  Land  Bank  of  New  York 
has  recently  sold  at  par  $50,000  of  its  42  per  cent  bonds,  secured  by 
deposit  of  $50,000  in  first  mortgages  bearing  a  rate  somewhat  higher 
than  the  bonds,  probably  5  per  cent.  The  mortgages  were  sent  in 
to  the  Land  Bank  by  various  New  York  State  loan  associations,  and 
they  are  said  to  have  covered  about  $17,000  of  farm  and  $33,000  of 
city  property.  The  borrowers  repay  through  the  loan  association  in 
instalments  covering  a  period  of  years. 

198.    WISCONSIN'S  EXPERIMENT  IN  RURAL  CREDIT' 
By  H.  J.  DREHER 

The  legislature  of  Wisconsin  in  its  1913  session  enacted  a  land 
mortgage  association  law,  which  in  its  substance  provides  as  follows: 
I.  As  to  the  organization  of  land  mortgage  associations: 

a)  Land  mortgage  associations  with  capital  stock  of  not  less  than 
$10,000,  distributed  among  not  less  than  fifteen  stockholders,  are  created 
for  the  sole  purpose  of  loaning  money  to  farmers  for  the  improvement  and 
development  of  Wisconsin  farms.  An  ultimate  reserve  of  20  per  cent  of 
the  capital  stock  is  required. 

b)  The  direction  of  these  associations  vests  in  a  board  of  trustees,  and 
provisions  are  made  for  a  loan  committee  and  an  auditing  committee.  The 
auditing  committee  is  elected  by  the  stockholders  and  may  suspend  any 
trustee,  oflicer,  or  member  of  the  committee  on  loans.  The  commissioner 
has  the  right  to  attend  all  meetings  of  trustees  and  auditing  committees. 

c)  All  by-laws  for  the  government  of  these  associations  and  under  which 
the  details  of  business  arc  transacted  must  be  approved  by  the  commissioner 
of  banking. 

d)  The  associations  arc  regularly  examined  by  examiners  of  the  l)ank- 
ing  department  and  a  double  liability  attaches  to  the  stock. 

'  Adapted  from  "Wisconsin's  Exi^rimcnt  in  .Applying  Its  Rural  Credit  Laws." 
Journal  oj  the  American  Bankers'  Association,  VTII  (1915),  391-93- 


398  PRINCIPLES  OF  MONEY  AND  BANKING 

2.  As  to  mortgages  securing  bonds: 

a)  The  form  of  mortgages  and  bonds  is  approved  by  the  commissioner 
of  banking  and  the  attorney-general  of  the  state. 

/))  Each  mortgage  must  be  a  first  lien  upon  the  whole  and  undivided 
fee  of  property  in  Wisconsin,  and  must  contain  provisions  for  proper  soil 
conservation,  for  the  annual  or  semiannual  reduction  of  the  principal  of 
the  mortgage,  and  for  the  payment  of  all  taxes  by  the  mortgagor  and 
insurance  against  loss  by  fire,  tornado,  and  lightning.  No  mortgage  shall 
exceed  65  per  cent  in  value  of  improved  and  40  per  cent  in  value  of  unim- 
proved land,  and  shall  not  exceed  in  amount  15  per  cent  of  the  capital  and 
surplus  of  the  association. 

c)  Each  mortgage  must  contain  a  provision  that  money  loaned  for 
purposes  of  erecting  new  buildings  shall  be  expended  under  the  control 
of  officers  of  the  land  mortgage  association. 

d)  When  property  is  transferred,  the  new  owner  assumes  by  law  the 
obligations  of  the  mortgage. 

3.  As  to  valuation  of  lands: 

a)  Valuation  made  by  two  appraisers,  residents  of  the  same  place  as 
the  borrower,  chosen  by  said  borrower. 

b)  Valuation  of  appraiser  must  be  certified  by  assessor  of  incomes,  a 
state  official,  as  being  not  in  excess  of  a  true  market  value. 

c)  Appeal  on  appraised  value  may  be  made  to  state  tax  commission. 
All  mortgages  taken  under  the  provisions  of  this  law  against  which 

bonds  are  issued  must  be  pledged  with  the  state  treasurer  of  Wisconsin, 
who  holds  them,  or  like  securities  of  equal  value,  during  the  life  of  out- 
standing bonds. 

The  total  amount  of  bonds  outstanding  shall  at  no  time  be  greater  than 
the  amount  due  on  the  mortgages  pledged,  plus  any  additional  deposited 
security,  nor  shall  it  at  any  one  time  exceed  twenty  times  the  amount  of 
the  capital  and  surplus  of  the  association. 

The  borrower  shall  pay  periodically  the  following  amounts:  (i)  the 
agreed  rate  of  interest;  (2)  an  allowance  for  the  expense  of  the  land  mort- 
gage association  in  an  amount  not  exceeding  i  per  cent  annually  of  the  face 
of  the  loan;  (3)  a  payment  to  be  made  annually  or  at  more  frequent  desig- 
nated intervals  upon  the  principal  of  not  less  than  i  per  cent  of  the  original 
amount  thereof. 

Under  this  law  two  associations  have  been  formed  and  are  in  suc- 
cessful operation.  Both  are  owned  by  men  connected  with  banking 
interests,  and  both  are  situated  in  cities  which  are  tributary  to  cut- 
over  land,  and  are  headquarters  for  the  sale  of  the  same.  The  loans 
which  have  thus  far  been  made  are  of  the  most  conservative  kind,  the 
mortgages  not  exceeding  40  per  cent  of  the  value  of  the  property  mort- 
gaged.   Approximately   $100,000   of   bonds   have   been   marketed. 


AGRICULTURAL  CREDIT  399 

These  have  largely  been  purchased  by  investors  in  Milwaukee.  The 
bonds  are  eagerly  sought.  Entire  issues  are  sold  long  before  they  have 
been  delivered.  The  investor  realizes  their  strength,  and  their 
issuance  under  state  supervision  adds  to  their  ready  salability.  Cau- 
tion has  been  exercised  in  the  issuance  of  these  bonds  and  likewise  in 
their  marketing.  There  is  little  doubt  but  that  extensive  advertising 
and  a  popularization  of  the  bonds  would  create  a  demand  for  them 
beyond  the  possibility  of  supply. 

In  these  associations  there  are  no  great  number  of  employees,  no 
heavy  expenses  to  pay.  Consequently  there  are  no  loans  made  which 
are  impelled  by  necessity  or  eagerness  for  profit.  Loans  are  made 
under  the  most  advantageous  conditions,  the  necessities  of  the  bor- 
rower alone  determining  the  need  and  the  amount.  Conservatism 
dominates.  The  sense  of  responsibility  in  the  trustees,  the  exercise 
of  a  judgment  quickened  by  a  sense  of  individual  and  pecuniary 
interest  which  produces  the  best  of  judgments,  insure  safety  to  bor- 
rower and  investor  alike.  The  interference  of  the  state  is  but  slight, 
the  activity  of  its  officers  being  exercised  only  for  the  safeguarding  and 
timely  examination  of  funds  and  securities. 

From  the  standpoint  of  the  borrower  the  system  is  admirable. 
The  settler  is  usually  accustomed  to  amortized  long-term  mortgages 
by  reason  of  his  experience  with  similar  institutions  in  other  lands. 
He  knows  he  is  dealing  with  men  who  have  a  pecuniary  interest  in  the 
funds  which  they  loan  and  which  he  desires.  He  knows  that  energ>- 
and  the  results  which  are  produced  by  hard  and  intelligent  labor  in 
the  development  of  his  land  will  alone  enable  him  to  get  the  funds 
necessary  to  make  desired  improvements  or  acquire  needed  additions. 
This  is  an  incentive  of  inestimable  value  in  the  development  of  new- 
lands. 

The  rates  of  interest  which  the  borrower  pays  in  Wisconsin  under 
the  system  of  rural  credit  in  operation  are  6  per  cent,  with  three- 
quarters  of  I  per  cent  expenses  in  the  other.  These  rates  are  equi- 
table and  without  hardship  to  the  borrower,  and  the  commission  is 
undeniably  reasonable. 

Unless  facts  deduced  from  an  operation  of  the  act  extending  but 
a  comparatively  brief  period  of  time  arc  proved  to  be  inaccurate,  no 
problem  will  arise  by  reason  of  inadequate  supply  of  loanable  funds. 
As  already  indicated,  investors  in  cities  are  keen  to  purchase  the  bonds 
issued  under  the  act.  By  reason  of  the  fact  that  the  bonds  arc  a 
legal  investment  for  trust  funds  great  care  is  necessarily  exercised  to 


400  PRINCIPLES  OF  MONEY  AND  BANKING 

insure  utmost  safety.  Such  care  results  in  conservatism  being  exer- 
cised in  the  making  of  loans  to  settlers  and  farmers.  Conservatism 
is  of  equal  benefit  to  the  borrower  and  the  lender. 

199.    FEDERAL  LEGISLATION  ON  RURAL  CREDIT' 

After  a  period  of  deliberation  extending  over  some  nine  months, 
the  Joint  Committee  on  Rural  Credits,  created  by  an  act  passed  at  the 
close  of  the  last  session  of  Congress,  March  3,  1914,  has  rendered  its 
report  and  submitted  a  new  rural  credits  bill.  The  bill  in  question 
was  introduced  in  the  House  of  Representatives  on  January  4,  19 16,  as 
H.R.  6838,  while  the  formal  report  of  the  Commission  was  submitted 
on  the  same  date. 

The  new  bill  is  the  last  of  a  long  series  of  rural-credit  measures, 
and  analysis  of  it  shows  that  it  is  essentially  based  upon  the  so-called 
HoUis-Bulkley  bill,  drafted  during  the  summer  of  1913  by  a  joint  sub- 
committee representing  the  committees  of  the  House  and  Senate  on 
banking  and  currency.  In  the  original  Hollis-Bulkley  bill  the  plan 
proposed  provided  for  the  creation  of  a  group  of  so-called  "land 
banks,"  and  underlying  and  supporting  them  "farm  loan  associa- 
tions." These  farm  loan  associations  might  be  organized  with  capitals 
as  low  as  $10,000,  and  were  to  make  advances  on  first  mortgages 
secured  by  farm  lands;  and  whenever  such  farm  loan  associations  pre- 
sented these  mortgages  to  the  land  bank  of  the  district  in  which  they 
were  situated,  such  land  bank  was  expected  to  purchase  the  mortgage 
in  question.  The  farm  loan  associations  were  thus  provided  with 
further  resources  for  lending  to  other  borrowers,  and  were  permitted 
to  extend  such  loans  up  to  an  amount  equal  to  twenty  times  their 
capital,  if  desired.  The  land  banks,  on  the  other  hand,  were  expected 
to  obtain  their  funds  by  selling  to  the  public  bonds  protected  by  the 
farm  mortgages  which  had  been  purchased  from  farm  loan  associa- 
tions, the  said  mortgages  being  deposited  in  trust,  so  that  the  bonds 
were  thus  real  estate  collateral  securities.  In  order  to  supply  an 
immediate  market  for  the  bonds,  it  was  provided  that  they  might  be 
used  as  investments  for  postal  savings  funds,  might  be  purchased  by 
national  banks,  and  under  certain  conditions  should  be  taken  up  by 
the  Treasury  to  the  extent  of  $50,000,000  per  annum.  In  the  present 
bill  the  same  plan  is  retained  as  the  basis,  but  with  certain  fundamental 
modifications.     Perhaps  the  most  important  of  these  is  that  the  farm 

'Adapted  from  "Washington  Notes"  in  the  Journal  of  Political  Economy, 
XXIV  (1916),  184-86. 


AGRICULTURAL  CREDIT  401 

loan  associations  are  now  to  be  established  without  capital,  being 
"  associations  "  in  the  broadest  sense  of  the  term.  They  are  permitted 
to  sell  mortgages  to  the  land  bank  of  the  district  in  which  they  are 
situated,  but,  as  they  lack  capital,  such  a  land  bank  could  protect 
itself  in  case  of  default  of  the  mortgage  only  by  falling  back  upon  the 
general  liabiUty  of  the  members  of  the  association.  The  second 
important  modification  is  found  in  the  fact  that  the  land  banks  (whose 
stock  is  to  be  bought  by  the  government  if  not  taken  by  private  sub- 
scription) are  to  be  made  government  depositaries.  This  would  mean 
that  the  government  might,  to  any  extent  that  it  felt  disposed,  supply 
capital  for  the  use  of  the  land  banks,  although  there  is  a  provision  that 
the  money  thus  deposited  is  not  to  be  in\ested  in  mortgage  loans. 
It  could,  however,  apparently  be  used  in  the  purchase  of  farm  loan 
bonds  or  in  covering  defaults  of  interest  or  principal.  The  system  is 
placed  under  the  general  oversight  of  an  organization  to  be  known  as 
the  Farm  Loan  Board,  organized  after  a  manner  somewhat  similar 
to  that  adopted  in  the  creation  of  the  Federal  Reser\-e  Board. 

As  in  the  Hollis-Bulkley  bill,  it  is  provided  in  the  new  measure 
that  the  mortgage  loans  are  to  be  of  very  long  termj  thirty-six  years 
being  estabUshed  as  the  maximum,  with  provisions  for  amortization 
payments  annually.  Should  the  new  bill  be  successful  in  accom- 
plishing its  object,  it  would  presumably  result  in  moving  the  present 
body  of  farm  mortgages,  made  on  short  terms  of  three  to  five  jears 
for  the  most  part,  into  the  new  system,  as  a  result  of  which  the  present 
holders  of  farm  mortgages  would  find  themselves  driven  to  substitute 
farm  loan  bonds  for  their  mortgage  holdings  or  else  to  find  some  other 
form  of  investment. 

It  is  noteworthy  that  although  the  Committee  on  Rural  Credits 
was  directed  to  consider  not  only  a  plan  for  farm  mortgage  loans  but 
also  a  plan  for  so-called  "personal  credit^,"  it  has  accomplished 
nothing,  so  far  as  is  known,  on  the  latter  subject.  There  has  been  a 
growth  of  the  view  that  under  existing  conditions  it  is  difficult  to 
provide  for  personal  loans  to  farmers  beyond  what  is  now  done 
through  the  use  of  existing  banking  machinery.  The  section  of  the 
Joint  Committee  on  Rural  Credits  to  which  was  assigned  the  work  of 
preparing  a  bill  relating  to  personal  credits  has,  at  all  events,  thus  far 
furnished  nothing,  perhaps  with  the  idea  that  the  subject  would  be 
better  deferred  until  the  problem  of  long-term  credit  has  been  dis- 
posed of. 


X 

INVESTMENT  BANKING  INSTITUTIONS 

Introduction 

In  this  chapter  we  are  to  consider  a  t\pe  of  financial  institution 
very  different  from  those  we  have  thus  far  been  studying.  In  the 
main  the  function  of  the  commerical  bank  is  to  make  loans  for  busi- 
ness purposes  by  the  use  of  its  own  capital,  accumulated  earnings, 
and  credit.  Moreover,  the  loans  made  are  for  short  periods  only,  and 
the  funds  are  supposed  to  be  devoted  to  quickly  liquidating  commer- 
cial operations.  In  contrast  with  this  the  function  of  the  investment 
institution  is  to  collect  funds  from  those  who  do  not  wish  to  assume  the 
responsibility  of  employing  them  productively  and  to  turn  them  over 
to  those  who  do — to  transfer  the  savings  of  society  to  the  channels 
of  productive  industry.  They  are  unlike  commercial  institutions, 
also,  in  that  investment  funds  are  put  out  for  long  periods  of  time 
and  are  specifically  devoted  to  capitalistic  or  slowly  liquidating 
enterprises. 

Investment  institutions  are  of  two  classes — the  savings  bank 
and  the  bond  house,  now  often  called  investment  bank.  At  bottom 
these  institutions  are  performing  a  virtually  identical  function — that 
of  transferring  funds  from  one  class  of  people  to  another — but  they 
operate  quite  differently.  The  savings  bank  collects  the  scattered 
savings  of  a  community  and  loans  them  in  turn  to  those  who  are  in 
need  of  funds  for  the  development  of  business  enterprises.  These 
loans  are  largely  made  by  means  of  investments  in  the  securities  of 
corporations,  the  bank  feceiving  the  interest  on  the  securities  while 
paying  to  its  depositors  a  somewhat  lower  rate.  The  bond  house,  on 
the  other  hand,  starts  at  the  opposite  end.  It  undertakes  to  find  a 
market  for  the  securities  of  corporations,  that  is,  to  place  them  in  the 
hands  of  investors.  It  purchases  the  bonds  or  stock  certificates  of  a 
corporation  at  one  price  and  endeavors  to  sell  to  investors  at  a  higher 
price.  Among  the  largest  investors  in  the  securities  offered  by  bond 
houses  are  the  savings  banks  themselves,  though  a  substantial  and 
constantly  increasing  proportion  go  directly  to  private  investors. 
Where  the  securities  are  sold  to  savings  banks  one  might  say  that 

402 


INVESTMENT  BANKING  INSTITUTIONS  403 

the  bond  house  and  the  savings  banks  arc  engaged  jointly  in  the  trans- 
fer of  given  funds  from  savers  to  borrowers — that  their  work  begins 
at  opposite  ends  and  that  they  meet  part  way  in  the  process. 

When  viewed  from  the  standpoint  of  organization  and  control, 
savings  banks  are  of  many  different  t}pes.  Many  of  them  are  organ- 
ized on  a  mutual  basis,  and  are  hence  ver>'  similar  to  the  co-operative 
institutions  discussed  in  chapter  viii.  Many  of  them  are  semi- 
philanthropic  in  their  nature;  some  are  organized  and  operated  by 
the  government ;  while  others  are  private  enterprises  conducted  on 
strictly  business  principles.  The  regular  "commercial"'  banks  have 
also  entered  the  savings  field,  and  the  great  majority  of  them  now  have 
their  savings  departments.  Insurance  companies  are  also  a  form  of 
savings  institution. 

The  bond  houses,  or  investment  banks,  are  likewise  of  numerous 
types.  Some  assume  in  a  large  way  the  financial  risks  of  industry, 
while  others  are  mere  purveyors  of  securities  for  a  price.  The  process 
of  bond  distribution  has  come  to  involve  several  stages  which  are 
now  clearly  differentiated,  each  involving  its  special  problems. 
The  bond  business  has  grown  to  enormous  proportions,  it  being 
estimated  that  in  the  neighborhood  of  $2,000,000,000  of  bonds  are 
marketed  annually  in  the  United  States.  Investment  institutions 
are  therefore  quite  as  important  in  the  conduct  of  modern  business 
as  are  commercial  banks.  In  fact,  they  occupy  a  more  commanding 
position  in  the  financial  world,  and  it  is  in  connection  with  these 
institutions  that  the  great  problem  of  concentration  and  control, 
or  the  "Money  Trust,"  arise.  Treatment  of  this  phase  of  the  sub- 
ject, however,  is  reserved  for  the  concluding  chapter. 


A.     Savings  Institutions 

200.   TYPES  OF  SAVINGS  INSTITUTIONS' 
By  WILLIAM  H.  KNIFFEN,  JR. 

We  may  roughly  classify  savings  institutions  into:  first,  mutual 
(trustee)  or  philanthropic;  second,  stock  (including  "savings  and 
trust  companies");  third,  co-operative  or  democratic,  as  exemplified 
in  the  co-operative  banks  of  Europe.    The  first  are  usually  managed 

•Adapted  from  The  Savings  Hunk  and  Its  Practical  Work,  up.  52-61.  (The 
Bankers'  Publishing  Co.,  1912) 


404  PRINCIPLES  OF  MONEY  AND  BANKING 

by  a  self-perpetuating  body  of  trustees  who  do  not  share  the  earn- 
ings; the  second  are  managed  by  the  directors  elected  by  the  stock- 
holders;  the  third  are  managed  by  officials  elected  by  the  members. 

The  distinguishing  characteristic  of  the  trustee  savings  bank  is 
mutuality.  All  the  earnings,  less  reasonable  administrative  expenses 
and  the  apportionment  to  surplus  or  guaranty  fund,  are  divided 
among  the  depositors  in  the  form  of  interest. 

If  we  were  to  trace  the  savings  bank  idea  back  to  its  origin  we 
should,  in  all  probability,  find  that  it  had  its  beginning  in  the  "sick 
and  aid"  and  other  friendly  societies  which  have  existed  for  centuries 
in  many  parts  of  Europe;  for  the  savings  bank  is  simply  the  cul- 
mination of  the  attempts  of  thrifty  people  to  provide  for  the  rainy 
day.  Workmen  in  all  parts  of  the  world  have  organized  societies 
among  themselves  whose  fundamental  purpose  has  been  to  save  a 
part  of  their  earnings  for  slack  times,  sickness,  old  age,  and  death. 
Such  organizations  have  been  formed  with  no  other  purpose  than  to 
accumulate  a  fund  to  properly  celebrate  Christmas  and  other  holi- 
days, or  to  finance,  in  an  easy  manner,  an  annual  picnic  or  similar 
occasion.  A  small  amount  of  dues  is  usually  required,  and  these 
contributions,  enhanced  by  the  proceeds  of  an  annual  ball  or  outing, 
provide  the  fund  from  which  sick  benefits,  funeral  funds,  etc.,  are 
paid.  Some  of  these  societies  even  go  so  far  as  to  make  a  division 
of  the  whole  amount  on  hand  at  the  close  of  the  year  and  then  begin 
over  again.  The  social  features  no  doubt  form  an  added  attraction, 
inasmuch  as  the  opportunity  for  rest  and  recreation  is  an  inducement 
to  join.  The  organization  is  often,  even  in  this  day,  connected  with  a 
church,  and  in  many  instances,  if  not  all,  is  productive  of  much  good. 

It  will  readily  be  seen  that  any  movement  by  which  individuals 
combine  their  resources  for  mutual  investment  for  mutual  advantage 
is,  in  its  essence,  a  savings  bank.  Building  and  loan  associations, 
industrial  insurance,  fraternal  societies,  labor  organizations,  and  pen- 
sion plans  are  all,  in  the  final  analysis,  but  modifications  of  the  savings 
bank  idea.  The  difference  between  the  savings  banks  and  such  organi- 
zations lies  in  the  fact  that  the  savings  bank  never  requires  any  fee 
for  joining  or  dues  or  fines  for  failure  to  contribute.  The  manage- 
ment is  perpetual,  and,  except  in  a  few  states,  the  members  have  no 
voice  in  the  selection  of  the  managing  officials,  who  do  not  change 
except  by  death  or  resignation. 

The  stock  savings  bank,  where  it  is  a  savings  bank,  and  not  a 
bank  of  discount  under  a  savings  title,  differs  in  no  essential  degree 


INVESTMENT  BANKING  INSTITUTIONS  405 

from  the  mutual  institution.  The  mutual  bank  belongs  to  the 
depositors,  the  stock  bank  to  the  stockholders.  The  mutual  bank 
pays  dividends  to  depositors  only;  the  stock  bank  pays  dividends 
to  both  stockholders  and  depositors.  The  stock  bank  does  not  pre- 
tend to  be  philanthropic  in  its  management.  It  is  purely  a  business 
proposition,  and  where  the  investments  are  of  the  accepted  savings 
bank  type,  it  can  justly  claim  to  be  on  a  par  with  its  mutual  friends, 
provided,  of  course,  that  it  measure  up  to  the  standard  in  its  man- 
agement. 

As  is  implied  in  the  term  "stock,"  it  issues  capital  shares  and 
pays  dividends  thereon.  It  has,  therefore,  the  added  protection  of 
the  stockholders'  liability,  which,  together  with  the  accumulated 
surplus,  affords  the  element  of  strength  so  necessary-  in  all  financial 
concerns.  It  usually  pays  the  depositors  a  stipulated  rate  of  interest, 
and  the  profits  beyond  this  belong  to  and  are  distributed  to  the  stock- 
holders as  dividends.  The  partnership  idea  is  entirely  lacking,  and 
the  depositors  get  what  they  bargain  for,  while  the  surplus  goes  to 
those  who  invest,  not  necessarily  their  savings,  but  their  capital,  and 
assume  all  risks  of  the  business.  It  could  not  in  law  or  equity  "scale 
down"  its  deposits  to  make  good  any  losses — a  feature  peculiar  to 
the  mutual  institution. 

In  this  respect  one  thing  is  certain :  In  so  far  as  safety  is  concerned, 
especially  in  a  young  bank,  the  stock  bank  with  the  stockholders' 
liability  is  surely  superior  to  the  mutual  unless  the  trustees  of  the 
latter  are  of  such  high  order  and  of  such  financial  worth  as  to  be  able 
and  willing  to  assume  the  burden  of  any  losses  that  may  accrue  until 
the  suq)lus  or  guaranty  fund  affords  ample  protection.  This  has  not 
usually  been  the  case. 

New  Hampshire  is  the  only  state  in  which  "guaranty  savings 
banks"  will  be  found.  These  are  a  com])ination  of  mutual  and  stock — 
a  cross  between  the  two.  They  do  not  transact  a  commercial  business, 
being  strictly  savings  banks  in  their  functions,  yet  having  "special 
deposits,"  which  to  all  intents  and  purjioscs  are  capital  stock.  "'J'he 
guaranty  savings  bank  dilTers  from  the  ordinary  mutual  savings  bank 
in  that  it  has  cai)ital  stock,  or  special  deposits,  as  they  are  called.  It 
pays  a  certain  stipulated  rate  of  interest  to  its  general  depositors  and 
any  surplus  of  earnings  above  this  dividend  is  available  for  dividends  on 
the  capital  stock  or  special  deposits.  These  speci<il  deposits  constitute  a 
guaranty  fund  for  the  general  depositors,  and  the  charter  ordinarily 
stipulates  that  the  special  deposits  shall  ahcays  equal  10  per  tint  ot  the 
deposits. 


4o6  PRINCIPLES  OF  MONEY  ANlJ  IJANKING 

"The  special  depositors  of  a  guaranty  fund  in  any  savings  bank 
incorporated  and  doing  business  under  the  guaranty  system  may 
vote  to  increase  the  said  guaranty  fund  at  any  meeting  of  the  special 
depositors  called  for  that  purpose.  The  amount  of  the  increase  or 
addition  to  said  fund  may  be  subscribed  for  and  taken  by  the  special 
depositors  of  said  fund  in  proportion  to  their  special  deposits  or  by 
other  parties  in  case  of  failure  of  said  special  depositors  to  take  and 
pay  for  said  increase  or  addition  within  ninety  days.  Said  increase 
or  addition  to  the  guaranty  fund  may  be  on  such  terms  of  preference 
over  the  original  fund,  as  to  dividends,  and  in  distribution  of  assets 
as  shall  be  determined  by  vote  of  the  special  depositors  at  the  meeting 
when  such  increase  or  addition  is  voted." 

In  thus  agreeing  to  pay  a  stipulated  rate  of  interest  upon  deposits 
one  of  the  fundamental  principles  of  mutual  savings  banking  is  vio- 
lated, and  these  "special  deposits"  are  therefore  in  the  nature  of 
capital  stock.  One  of  the  underlying  principles  of  the  savings  bank 
is  this:  Interest  to  depositors  shall  only  be  paid  as  it  is  earned,  and 
only  that  which  is  earned  can  be  paid. 

This  is  not  to  say  that  "guaranty"  institutions  are  not  savings  banks 
in  every  sense  of  the  word,  but  the  strictly  mutual  feature  is  lacking 
in  the  specializing  of  part  of  the  deposits  and  paying  a  higher  rate 
of  interest  on  these  deposits. 

20I.    MUTUAL  SAVINGS  BANKS  IN  THE  UNITED  STATES' 

The  reports  of  the  634  mutual  savings  banks  in  the  United  States 
as  of  June  30, 1914,  show  a  total  of  8,277,359  depositors  and  an  average 
deposit  account  of  $473.05.  The  statement  of  total  resources  and 
liabilities  is  as  follows: 

RESOURCES 

Loans,  including  overdrafts $2,123,921,774.88 

Bonds,  securities,  etc 1,855,476,712.85 

Banking  houses,  furniture,  and  fixtures 39,678,148.65 

Other  real  estate 13,196,801.91 

Amount  due  from  national  banks 73,825,900.56 

Amount  due  from  state,  etc.,  banks 98,006,679.33 

Checks  and  cash  items 2,489,863.59 

Cash  in  bank 23,987,453.11 

Resources  not  classified 22,406,139.17 

Total $4,252,989,474.05 

'Adapted  from  Annual  Report  of  the  Comptroller  of  the  Currency,  1914,  I, 
87-88. 


INVESTMENT  BANKING  INSTITUTIONS  407 

LIABILITIES 

Surplus S    280,095,122.94 

Undivided  profits 55.503.9590i 

Amount  due  to  national  banks 123,454.99 

Amount  due  to  state,  etc.,  banks 31,784.51 

Individual  deposits 3,915,626,190.57 

Other     liabilities     (including     postal     savings, 

$13,962.27,  and  bills  payable,  $110,525) 1,608,962.03 

Total $4,252,989,474.05 

Mutual  savings  banks  arc  confined  chiefly  to  manufacturing 
centers  and  towns  of  the  New  England  and  Eastern  States,  there 
being  only  23  reporting  institutions  of  this  character  in  other  sections 
of  the  country,  viz.:  i  in  West  Virginia,  3  in  Ohio,  5  in  Indiana,  5  in 
Wisconsin,  8  in  Minnesota,  and  i  in  California. 

The  average  rate  of  interest  paid  to  depositors  in  mutual  savings 
banks  in  1914  was  3.86  per  cent,  against  3.94  per  cent  in  1913.  The 
highest  rate  is  paid  by  the  West  Virginia  banks,  4.5  per  cent,  and  the 
lowest  average  by  the  banks  in  Pennsylvania,  3.57  per  cent.  An 
average  of  4  per  cent  is  paid  depositors  in  mutual  savings  banks  in 
Massachusetts,  Rhode  Island,  Delaware,  Indiana,  and  California. 
The  average  rate  paid  by  mutual  savings  banks  in  the  New  England 
States  is  3.90  per  cent,  in  the  Eastern  States  3.70  per  cent,  in  the 
Middle  Western  States  3.68  per  cent,  and  by  the  one  bank  in  Cali- 
fornia 4  per  cent. 

202.     STOCK  SAVINGS  BANKS  IN  THE  UNITED  STATES' 

A  large  number  of  so-called  savings  banks  transact  chiefly  a 
commercial  business  and  carry  very  few  savings  accounts.  In  those 
states  where  savings-bank  reports  are  not  separately  compiled  by 
the  state  banking  departments,  but  classified  with  commercial  banks, 
care  has  been  exercised  in  eliminating  from  the  classification  made 
by  this  office  all  so-called  savings  banks  which  are  chiefly  banks  of 
discount  and  deposit,  transacting  only  a  minimum  of  savings-bank 
business. 

The  resources  and  lial)ilities  of  the  1,466  reporting  stock  savings 
banks  were  as  follows: 

'  Adapted  from  Annual  Report  of  the  Comptroller  of  the  Ciirrcney,  1914, 1,  S9-90. 


4o8  PRINCIPLES  OF  MONEY  AND  BANKING 

RESOURCES 

Loans  secured  by  unencumbered  and  improved  farm  land. .  $  81,687,839.74 

Loans  secured  by  other  real  estate 397,148,757.22 

Loans  secured  by  bonds  and  stocks 63,654,596.86 

Loans  secured  by  other  collateral 26,975,376.20 

Time  loans  without  collateral 111,304,613.25 

Demand  loans  without  collateral 21,801,526.69 

Loans  unclassified 127,053,539.76 

Overdrafts 1,911,402.00 

United  States  bonds 521,088.75 

State,  county,  and  municipal  bonds 24,062,789.82 

Railroad  bonds 13,619,458.7 1 

Other  public- service  bonds 4,923,590.42 

Bank  stocks 966,252.63 

Railroad  stocks 1,101,264.60 

All  other  bonds,  stocks,  warrants,  etc 103,505,060.90 

Due  from  national  banks 89,490,733.49 

Due  from  banks  other  than  national 24,269,751.23 

LIABILITIES 

Capital  stock $     89,423,876.57 

Surplus  and  profits 59,392,603.42 

Savmgs  deposits $752,785,914.16 

Time  certificates  of  deposits 82,662,853.59 

Demand  deposits 185,516,890,71 

Total  mdividual  deposits $1,020,965,658.46 

The  depositors  in  stock  savmgs  banks  number  2,832,140,  of  which 
2,228,020  are  savings  depositors  and  604,120  have  commercial 
accounts. 

203.    SAVINGS  IN  NATIONAL  BANKS' 

Although  a  few  of  the  national  banks  had  had  savings  depart- 
ments in  1903,  there  was  considerable  apprehension  on  the  part  of 
many  as  to  the  legality  of  accepting  savings  deposits. 

During  that  year  Comptroller  of  the  Currency  Ridgely  gave  an 
official  opinion  in  answer  to  a  request  from  a  western  banker  relative 
to  whether  a  national  bank  could  legally  operate  a  savings  depart- 
ment: "In  reply  to  your  letter  relative  to  the  right  of  a  national  bank 
to  operate  a  savings  department,  you  are  respectfully  informed  that 

'  From  Annnd  Reports  of  the  Comptroller  of  the  Currency,  1912  and  1913. 


INVESTMENT  BANKING  INSTITUTIONS  409 

there  does  not  appear  to  be  anything  in  the  National  Bank  Act  which 
authorizes  or  prohibits  the  operation  of  a  savings  department  by  a 
national  bank. 

"Many  national  banks  pay  interest  on  deposits,  the  receipt  of 
such  deposits  being  evidenced  either  by  entries  in  the  passbooks  of 
the  depositors  or  by  issue  of  certificate  of  deposit,  as  may  be  preferred. 
Deposits  of  this  character  must  be  shown  in  the  reports  of  the  bank, 
and  loaned  in  the  manner  provided  by  the  National  Bank  Act.  This 
would  prevent  a  national  bank  from  accepting  real  estate  collaterals, 
which  are  deemed  judicious  for  savings  banks.  All  deposits,  however, 
in  a  national  bank  are  i)ayable  on  demand,  except  when  the  subject 
of  special  contract,  but  the  right  of  a  bank  to  make  a  contract  of  that 
nature  is"  a  matter  for  judicial  determination. 

"The  expediency  of  a  national  banking  association  organized  for 
the  purpose  of  doing  a  business  of  discount  and  deposit  engaging  in 
the  business  of  a  savings  bank  is  one  for  consideration  and  determina- 
tion by  the  board  of  directors." 

By  reason  of  the  strong  competition  for  deposits,  and  incidentally 
the  payment  'of  higher  rates  of  interest  on  savings  than  on  other 
accounts  on  the  part  o£  trust  companies  and  other  State  banking 
institutions,  the  establishment  of  savings  departments  or  the  pay- 
ment of  interest  on  savings  accounts  by  national  banks  has  notably 
increased  until  at  the  present  time  about  45  per  cent  of  the  banks 
have  taken  that  action,  as  shown  by  the  reports  relating  to  the 
number  and  volume  of  savings  accounts. 

On  August  9,  19 13,  the  Comptroller  reports  the  number  of  savings 
depositors  in  national  banks  as  3,020,831,  the  aggregate  of  deposits 
as  $820,639,410.68,  and  the  average  deposit  as  $205.50. 

204.    THE  REGULATION  OF  SAVINGS  BANKS' 
By  homer  HOYT 

Legislation  on  the  subject  of  savings  banks  varies  greatly  in  dif- 
ferent states;  in  some  there  is  no  legislation  at  all,  while  in  others 
we  find  excellent  provisions  for  the  safeguarding  of  the  business. 
In  the  eastern  states  particularly,  where  the  mutual  savings  insti- 
tutions have  long  been  in  existence,  we  hnd  the  best-developed  laws 
on  the  subject.    The  New  York  law  has  served  as  a  model  for  that 

'Adapted  from  an  iin|mhlishcd  thesis  on  "Savings  Banks  and  the  Treatment 
of  Savings  Bank  Deposits  in  the  United  States." 


4IO  PRINCIPLES  OF  MONEY  AND  BANKING 

of  many  other  states,  and  it  may  therefore  be  taken  as  t>T)ical  of  the 
best  regulation  we  have. 

A  savings  bank  in  New  York  is  defined  by  the  statutes  as:  "A 
corporation  duly  authorized  by  the  laws  of  this  state  to  receive 
money  on  deposit  and  pay  such  rates  thereon  and  to  invest  the 
same  in  such  securities  as  may  be  prescribed  by  law." 

Since  savings  banks  are  investment  concerns,  the  easiest  and 
most  effective  way  in  which  they  can  be  safeguarded  by  law  is  to 
restrict  the  investments  which  are  lawful  for  a  savings  bank  to  make. 
By  refusing  to  sanction  investments  in  doubtful  enterprises  and 
stocks  and  bonds  of  a  fluctuating  or  uncertain  value  laws  can  secure 
the  comparative  safety  of  invested  funds.  New  York  has  taken  the 
lead  in  such  legislation. 

In  the  restriction  of  investments  there  have  been  two  opposite 
forces  at  work.  On  the  one  hand  there  has  been  a  tendency  toward 
restriction,  to  insure  the  absolute  safety  of  savings  bank  deposits; 
and,  on  the  other  hand,  the  call  of  the  higher  interest  has  proven  very 
seductive.  It  does  not  do  to  go  too  far  on  the  side  of  restriction  and 
to  narrow  the  field  of  investment  to  United  States  bonds,  for  then  the 
interest  would  be  so  low  that  few  wage-earners  would  be  encouraged 
to  save.  The  reward  of  saving  should  be  as  high  as  possible,  and  the 
most  lucrative  bait  should  be  offered  at  the  outset  to  tempt  the  mar- 
ginal depositor.  It  is  far  more  dangerous,  however,  to  go  too  far  in 
the  other  direction.  Savings  bank  investments  must  be  the  safest 
of  all  investments.  It  is  believed  that  more  depositors  are  attracted 
by  the  consideration  of  safety  than  by  offer  of  interest.  Hence 
industrial  stocks  and  bonds  paying  8  or  9  per  cent,  while  possible 
for  the  ordinary  investor,  are  not  conservative  enough  for  the  savings 
bank.  The  operation  of  these  opposite  tendencies — the  one  constantly 
to  narrow  the  field  and  the  other  to  widen  it — has  established  an 
equilibrium  at  about  3^  per  cent  and  4  per  cent.  At  this  rate  it  is 
possible  to  secure  a  gilt-edged  bond  of  a  corporation  which  in  all 
probability  will  never  pass  the  dividends  or  default  payment.  In 
late  years,  however,  it  is  becoming  more  difficult  to  maintain  the 
old  4  per  cent  interest  rate  in  New  York  State.  The  interest  rate  on 
high-grade  bonds  has  steadily  declined  until  those  now  for  sale  in 
the  market  yield  even  less  than  4  per  cent.  There  are  four  reasons 
to  explain  why  the  old  savings  banks  have  been  able  to  continue 
paying  the  high  dividend  of  4  per  cent  to  depositors  in  spite  of  the 
increasing  difficulty  of  getting  bonds  which  pay  more  than  4  per  cent: 


INVESTMENT  HAXKI.\(;  INSTITUTIONS  411 

1.  The  older  banks  have  accumulated  a  large  surplus  from  iheir  invest- 
ments in  the  bonds  of  several  decades  ago  which  bore  a  higher  rate  of 
interest,  the  income  from  which  creates  a  fund  to  be  divided  among 
depositors. 

2.  The  banks  still  carry  many  bonds  purchased  a  number  of  years 
ago  which  bear  high  interest  rates.  These  bonds  are  rapidly  coming  to 
maturity  and  are  being  replaced  by  bonds  with  a  lower  income  yield. 

3.  The  interest  on  a  number  of  dormant  accounts  helps  to  maintain 
the  higher  rate. 

4.  The  practice  of  fixing  dividend  periods  excludes  many  deposits,  and 
thus  increases  the  rate  for  the  rest. 

The  law  in  regard  to  the  investment  of  funds  may  be  summarized 
as  follows: 

1.  In  the  bonds  of  the  United  States  and  New  York  State. 

2.  In  the  bonds  of  other  states  which  have  not  defaulted  within  ten 
years. 

3.  In  the  municipal  bonds  of  New  York  State  municipalities. 

4.  In  the  bonds  of  any  city  in  a  state  admitted  to  statehood  prior  to 
1896,  and  which  has  not  defaulted  on  any  of  its  bonds  since  1861.  The 
debt  of  such  a  city,  however,  must  not  exceed  7  per  cent  of  its  assessed 
valuation. 

5.  In  first  mortgages  on  real  estate  in  New  York  State.  Such  mort- 
gages must  not  exceed  60  per  cent  of  the  value  of  the  improved  properly 
or  40  per  cent  of  the  value  of  the  unimproved  property. 

6.  In  the  first  mortgage  bonds  of  strong  railroads  which  have  paid  for 
at  least  five  years  dividends  at  the  rate  of  4  per  cent  on  their  stock,  but 
the  stock  must  be  at  least  equal  in  amount  to  one-third  the  debt  of  the  road. 

7.  In  the  first  mortgage  bonds  of  railroads  in  New  York  on  the  same 
condition.  Not  more  than  25  per  cent  of  the  deposits  shall  be  invested  in 
railroad  bonds  and  not  more  than  10  per  cent  in  the  bonds  of  any  one  road. 

8.  Cash  to  the  extent  of  10  per  cent  of  the  total  deposits  may  be  kept 
on  hand  or  on  deposit  with  slate  or  national  banks  or  trust  companies. 

9.  The  trustees  may  loan  this  cash  if  they  prefer  on  collateral,  but  the 
collateral  must  consist  of  such  bonds  as  are  enumerated  in  sections  one  to 
seven  above,  and  the  loan  must  not  exceed  $90  to  every  Sioo  of  collateral 
at  its  market  value. 

If  the  securities  decline,  the  savings  banks  must  demand  payment  of  the 
loan  or  an  increase  of  the  security. 

Stated  negatively  the  law  is  as  follows: 

1.  A  savings  bank  cannot  loan  money  on  notes,  drafts,  bills  of  exchange, 
or  on  any  personal  security  whatever. 

2.  A  savings  bank  cannot  buy  stocks  of  any  kind. 


412  PRINCIPLES  OF  MONEY  AND  BANKING 

3.  A  savings  bank  cannot  buy  bonds  or  other  securities  of  any  indus- 
trial, manufacturing,  or  street-railroad  company. 

4.  A  savings  bank  cannot  buy  or  loan  money  on  farm  lands  or  on 
mortgages  outside  of  New  York  State. 

5.  A  savings  bank  cannot  buy  any  bonds  that  are  not  first  mortgage 
in  whole  or  in  part.  Even  such  strong  bonds  as  the  New  York  Central  or 
Lake  Shore  debentures  or  collateral  trust  bonds  cannot  be  bought. 

6.  A  savings  bank  cannot  buy  any  real  estate,  bond,  or  mortgage, 
except  after  a  full  and  complete  examination  of  the  property  by  a  committee 
of  trustees. 

Furthermore,  it  is  a  practice  of  the  New  York  savings  banks  to 
invest  only  in  registered  bonds. 

Practically  all  the  cash  of  a  New  York  mutual  savings  bank 
except  such  amounts  as  may  be  required  for  current  needs  is  kept 
on  deposit  in  the  vaults  of  the  trust  companies.  When  a  run  begins 
the  bank  is  entitled  to  refuse  to  pay  cash  to  depositors,  except  after 
a  sixty-day  notice.  This  gives  the  savings  banks  time  to  transfer 
their  funds  from  the  trust  company  into  their  own  strong  boxes. 
In  the  panic  of  1907  the  rule  was  enforced  in  October.  Thousands  of 
frightened  depositors  gave  notice.  After  the  expiration  of  the  time 
limit  in  December  something  like  eight  million  dollars  were  drawn 
out.  At  the  same  time  savings  bank  deposits  in  trust  companies 
decreased  from  twenty-seven  million  dollars  to  eighteen  million  dol- 
lars, showing  that  the  savings  banks  drew  on  the  trust  companies 
for  the  cash  with  which  to  pay  depositors. 

205.    LIQUIDITY  NEEDED  IN  SAVINGS  BANK  INVESTMENTS' 
By  GEORGE  E.  EDWARDS 

During  the  last  two  decades  there  has  been  a  rapid  growth  in 
the  deposit  liabilities  of  savings  institutions,  caused,  not  entirely  by 
the  deposits  of  the  thrifty,  but  in  a  large  measure  by  the  deposit  of 
investment  funds  of  the  comparatively  rich.  To  be  prepared  to  meet 
in  times  of  stress  the  demands  of  both  classes  of  deposits  causes 
much  anxiety  to  savings  bank  managers. 

There  is,  therefore,  no  question  before  the  bankers  of  the  country- 
today  commanding  more  thought  and  attention  than  the  liquidity 
of  loans  and  investments.  The  savings  banker  is  equally  interested 
with  the   commercial   banker  in  securing   for  his  depositor  a  full 

'Adapted  from  "Liquidity  of  Savings-Bank  Investments,"  Journal  of  Amer'.- 
can  Bankers^  Association,  VIII  (1915),  223-24. 


INVESTMENT  BANKING  INSTITUTIONS  413 

measure  of  safety,  and  very  properly  should  seek  to  increase  the 
usefulness  of  his  institution,  both  to  his  customers  and  to  his  com- 
munity. 

Preserving  in  the  highest  degree  the  integrity  of  savings  banks, 
provisions  should  be  made  so  that  in  times  of  emergency  they  can 
expeditiously  convert  into  cash  the  necessary  portion  of  their  securi- 
ties and  pay  their  depositors  upon  demand.  Thercljy  the  usefulness 
of  the  institutions  will  be  increased. 

When  permanency  of  investment  was  the  order  of  the  day  it 
was  only  necessary  to  choose  the  safest  class  of  securities,  invest  the 
deposits,  and  await  maturity.  Panicky  conditions  taught  savings 
bankers  new  lessons. 

It  became  necessary,  therefore,  for  managers  of  savings  banks  to 
study  situations  and  give  much  more  attention  to  the  investment 
market  than  they  had  when  savings  banks  were  in  their  infancy. 

After  the  panic  of  1837  the  mutual  savings  banks,  for  the  first 
time,  realized  the  importance  of  accumulating  a  permanent  surj)lus 
fund.  Prior  to  that  time  the  larger  portion  of  their  funds  was  invested 
in  State  bank  stocks,  or  in  notes  secured  by  such  stocks  as  collateral. 
They  had  been  accumulating  profits  and  ever}^  three  years  paying 
them  out  to  their  depositors  in  the  form  of  dividends.  That  panic 
taught  them  the  necessity  of  laying  aside  a  certain  proportion  of 
their  earnings  as  a  reserve  fund  to  be  used  in  the  event  of  another 
crisis,  for  if  their  securities  depreciated  in  value  such  fund  would  have 
to  he  first  exhausted  before  there  could  be  a  general  scaling  down  of 
deposits.  Then,  too,  they  learned  that  distributing  their  risks  would 
be  advantageous.  Wisely  they  changed  their  policy,  and  such  change 
in  a  large  measure  protected  them  during  the  panic  of  1857. 

The  financial  upheaval  of  1873,  which  affected  all  savings  banks, 
was  not  without  its  lesson.  From  it  the  Ijanks  gained  much  knowledge 
concerning  mortgage  loan  investments. 

At  the  first  meeting  of  the  Savings  Banks  Association  of  the  State 
of  New  York,  held  in  1894,  the  situation  of  the  New  York  savings 
banks  during  the  panic  of  the  previous  year  was  discussed  and 
summed  up  as  follows: 

"After  July  15th  (1893)  it  was  found  tliat  (he  withdrawals  were 
constantly  increasing,  while  the  scarcity  of  currency  made  it  exceed- 
ingly difficult  for  ])anks  of  deposit  to  respond  to  the  calls  made  upon 
them.  Large  amounts  were  l)eing  withdrawn  from  banks  in  New 
York  and  Brooklyn,  with  a  ra])i(lly  increasing  tendency  on  the  i)art 


414  PRINCIPLES  OF  MONEY  AND  BANKING 

of  depositors  to  take  alarm  and  create  a  run,  while  it  was  found 
impossible,  not  only  to  sell  securities  except  at  a  sacrifice,  but,  more 
than  all,  to  obtain  the  currency  needed  to  pay  the  deposits. 

"It  was  decided  to  at  once  advise  the  banks  to  enforce  the  pro- 
vision in  the  Savings  Bank  Law  made  for  just  such  an  emergency  as 
then  existed,  and  demand  notice  from  depositors  as  was  provided 
for  by  the  by-laws  of  each  bank,  it  being  suggested  that  a  sixty-day 
notice  would  be  sufficient.  This  action  resulted  at  once  in  a  heavy 
demand  from  depositors,  though  the  rule  was  not  put  in  force  until 
the  time  agreed  upon  had  elapsed.  Depositors  gave  notice  of  with- 
drawal on  the  average  of  about  3  per  cent  of  the  deposits. 

"Our  experience  during  the  late  [1893]  panic,  together  with  the 
rapid  accumulation  of  moneys  in  our  hands,  showed  conclusively  that 
something  must  be  done,  and  that  speedily,  to  scatter  the  risks  now 
being  assumed.  In  many  cases  the  entire  debt  of  municipalities  in 
the  State  is  being  carried  by  the  savings  banks,  while  we  are  forced 
to  invest  more  and  more  in  mortgage  loans  secured  by  real  estate, 
both  at  the  cost  of  increased  risk  and  added  volume  of  an  unavailable 
security  in  case  of  financial  depression." 

The  conditions  so  clearly  set  forth  at  this  meeting  were  such  that 
steps  had  to  be  taken  to  bring  savings  bank  investments  abreast  with 
the  necessities  of  the  times,  and  from  1893  to  1898  the  banks  were 
insistent  in  their  demands  upon  the  State  legislature  for  an  enlarge- 
ment of  the  security  list  by  permitting  investments  in  railroad  bonds. 
The  bank  managers  believed  that  in  the  event  of  financial  stress  this 
class  of  securities  would  be  readily  marketable.  Upon  the  enactment 
of  the  desired  law  the  banks  bought  largely  of  such  securities,  so  that 
today  more  than  $289,000,000,  or  almost  12  per  cent  of  their  deposits, 
is  invested  in  railroad  bonds  by  New  York  savings  banks. 

But  the  enlargement  of  the  investment  field  did  not  produce  the 
situation  which  was  so  ardently  desired  by  all  good  bankers.  It  did 
not  bring  about  the  main  requirement  of  good  banking — ability  to 
pay  liabilities  upon  demand.  It  did  not  do  away  with  slow  liquida- 
tion of  securities  and  the  necessity  of  requiring  notices  of  withdrawal 
from  depositors. 

In  1907  Mr.  Andrew  J.  Mills,  of  the  T>ry  Dock  Savings  Bank  in 
New  York  City,  expressed  the  ideal  as  to  savings  bank  investments — 
the  ideal  which  had  been  sought  by  savings  bank  managers  since  1816. 
He  said  there  were  three  cardinal  principles  governing  such  invest- 
ments: 


INVESTMENT  BANKING  INSTITUTIONS  415 

First:    Security  as  absolute  as  human  judgment  can  determine. 

Second:  The  first  being  assured,  then  the  security  yielding  the 
largest  income. 

Third:  Availability,  so  that  in  case  of  necessity  the  security  can 
be  disposed  of  without  needless  sacrifice. 

The  last  includes  the  ability  to  pay  on  demand,  for  in  the  final 
analysis  it  is  the  ability  to  pay  depositors  on  demand  that  constitutes 
good  banking  and  inspires  confidence.  Your  funds  may  be  invested 
in  securities  of  the  highest  order,  your  loans  made  with  the  greatest 
care,  but  if  whenever  there  is  a  depression  depositors  are  recjuired  to 
give  notice  of  withdrawal  their  confidence  is  shaken  and  they  will 
eventually  cease  doing  business  with  savings  banks  and  deposit  their 
moneys  with  institutions  which  will  pay  without  notice. 

It  has  been  stated  that  "panics  do  not  develop  from  the  fear  of 
depositors  that  they  will  not  ultimately  get  their  money  from  banks, 
but  from  the  fear  that  they  will  not  be  able  to  get  it  when  they  want 
it."  That  is  the  fundamental  of  the  depositor's  confidence — that  he 
can  get  his  money  when  he  wants  it. 

It  is  the  understanding  of  the  depositor  that  his  money  is  payable 
upon  demand  and  the  presentation  of  his  passbook.  Confronted 
with  the  requirement  of  a  notice  of  withdrawal  he  learns  that  his 
deposit  is  not  payable  on  demand,  but  thirty  or  sixty  days  after 
demand. 

Not  only  in  fairness  to  depositors,  but  as  a  matter  of  policy, 
would  it  not  be  far  wiser  to  invest  a  jiortion  of  our  funds  in  short - 
time  loans,  of  the  character  generally  referred  to  as  liquid,  and  in  time 
of  emergency  depend  upon  such  loans  rather  than  upon  the  required 
notices  of  withdrawal  ? 

It  is  a  mistaken  belief  held  by  many  that  the  notice  of  withdrawal 
is  for  the  purpose  of  discouraging  the  depositor  from  withdrawing 
his  funds.  We  know  that  that  is  not  the  reason.  We  know  that  the 
bank  recjuires  time  to  convert  its  securities  and  thereby  meet  tlic 
demands  upon  it. 

//  savings  banks  invest  a  certain  proportion  of  their  deposits  in 
short-time  obligations  which  can  be  readily  converted  into  cash  in  the 
open  market^  or  if  a  proper  amendment  to  the  Federal  Reserve  Law  is 
made,  no  time  within  which  to  convert  securities  will  be  necessary, 
notices  of  withdrawal  will  be  a  thing  of  the  past,  and  dei)ositors  in 
savings  banks,  like  depositors  in  other  banks,  can  be  paid  upon 
demand. 


4l6  PRINCIPLES  OF  MONEY  AND  BANKING 

It  is  only  recently  that  the  word  "liquid"  has  been  attached  to 
securities.  Until  August  of  last  year  the  call  loan  secured  by  stock 
exchange  collateral  was  thought  to  be  easily  convertible  into  cash 
in  the  event  of  an  emergency.  Such,  however,  has  not  proven  to  be 
the  case. 

Certain  short-time  loans  would  admirably  meet  with  Mr.  Mills's 
three  principles — as  to  security^  as  to  yielding  good  income,  and  as 
to  availability  in  case  of  necessity — without  needless  sacrifice.  But 
to  make  such  securities  available  without  sacrifice,  amendments  to 
various  laws  governing  savings  banks  are  necessary. 

With  many  different  banking  institutions  handling  savings  depos- 
its, some  under  strict  State  laws  requiring  investment  in  only  the 
highest  class  of  securities,  and  others  under  laws  which  permit  the 
mixing  of  commercial  deposits  with  savings  deposits,  without  segre- 
gation of  investments,  it  may  seem  that  anything  approaching 
uniformity  in  the  investment  laws  is  incapable  of  accomplishment. 

Absolute  uniformity  probably  cannot  be  secured,  but  conferences 
and  discussions  between  ourselves  and  with  the  lawmakers  will  bring 
about  a  clearer  understanding  of  the  requirements,  and  secure  at 
least  more  uniform  laws  relative  to  savings  bank  investments,  at  the 
same  time  providing  ample  reserves  for  the  security  and  accommo- 
dation of  depositors. 

The  particular  function  of  a  commercial  bank  is  to  supply  funds 
to  carry  on  the  trade  and  commerce  of  the  country.  The  particular 
function  of  a  savings  bank,  aside  from  the  encouragement  of  thrift, 
is  to  supply  funds  for  the  improvement  and  building  up  of  communi- 
ties and  for  other  legitimate  enterprises.  The  one  furnishes  credit 
and  the  other  capital. 

There  is  a  tendency  on  the  part  of  some  savings  banks  in  different 
sections  of  the  country  to  disregard  these  fundamental  principles  of 
banking.  While  the  invested  funds  of  savings  banks  are  ultimately 
deposited  in  commercial  banks  and  used  for  commercial  purposes, 
nevertheless  in  investments  savings  banks  should  not  encroach  upon 
the  field  of  commercial  banks.  While  avoiding  such  encroachment 
and  looking  always  to  the  safety  of  the  funds  in  their  care,  savings 
bank  managers  should  carry  at  all  times,  as  a  secondary  reserve,  a 
goodly  percentage  of  short-time  and  readily  convertible  assets. 
Regulation  of  the  investments  of  savings  banks  should  be  developed 
along  these  lines. 


INVESTMENT  BANKING  INSTITUTIONS  417 

In  New  York  the  savings  banks  hold  more  than  $469,000,000  of 
bonds  of  the  United  States,  States,  municipalities,  and  other  civil 
divisions.  At  the  present  time  securities  of  this  class  are  decidedly 
non-liquid,  and  would  assuredly,  in  the  event  of  an  emergency,  have 
to  be  sold  at  a  sacrifice  in  order  to  obtain  currency.  In  the  Eastern 
States,  of  the  vast  sum  of  $2,200,000,000  on  deposit,  only  $50,000  is 
invested  in  two-  and  three-name  paj^er  which  would  probably  be 
acceptable  for  rediscount  under  the  Federal  Reserve  Law.  Prac- 
tically the  entire  sum  is  in  mortgage  loans  and  bonds.  It  will  be  seen, 
therefore,  that  under  existing  conditions  the  savings  banks  of  the 
East  are  substantially  without  liquid  securities. 

Some  managers  of  savings  banks  have,  however,  invested  in 
securities  which,  in  a  degree,  provide  liquid  assets. 

The  policy,  for  example,  of  a  certain  bank  in  this  section  of  the 
country  is  to  invest  a  certain  proportion  of  its  funds  in  short-date 
maturities,  such  as  serial  municipal  bonds  or  railroad  equiprtfent 
obligations. 

This  policy  supplies  the  bank  with  a  large  amount  of  cash  every 
year,  amounting  to  approximately  5  per  cent  of  its  resources.  In 
addition  the  managers  aim  to  have  on  hand  usually  about  6  per  cent 
in  cash  with  an  income  of  approximately  5  per  cent  of  the  resources. 
By  so  doing  they  have  a  fairly  large  percentage  of  money  coming  in 
every  year. 

It  has  also  been  the  policy  of  this  institution  to  earn,-  a  large 
block  of  United  States  bonds — at  present  having  nearly  7  per  cent 
of  its  resources  invested  in  the  4's  of  1925.  These  holdings,  through 
the  circulating  privilege  which  the  bonds  still  enjoy,  would  supply 
the  bank  quickly  with  an  amount  of  currency  equivalent  to  face 
value  by  the  loan  or  sale  to  a  national  bank  with  which  it  does  busi- 
ness. To  this  may  be  added  its  mortgage  loan  liquidations,  which 
often  amount  to  about  5  per  cent  of  the  total  amount  of  mortgage 
loans.  In  these  several  items  that  bank  has  a  comfortable  percent- 
age of  liquid  assets — about  25  per  cent  of  its  deposits. 

In  connection  with  the  preparation  of  this  paper  an  inquin.-  was 
made  "as  to  whether  it  is  a  good  policy  for  savings  banks  to  invest 
their  funds  in  certain  loans  which  could  be  readily  turned  into  cash 
in  the  event  of  an  emergency,  and  what  proportion  of  their  securities 
should  be  of  a  licjuid  character."  A  digest  of  the  rci>lics  to  this  inquiry- 
shows  that  the  opinions  as  to  the  kind  of  securities  in  which  savings 


4i8  PRINCIPLES  OF  MONEY  AND  BANKING 

bank  funds  should  be  invested  are  varied,  but  that  there  is  practical 
unanimity  of  oi)inion  that  every  bank  should  have  a  good  percentage 
of  its  funds  invested  in  readily  convertible  securities. 

206.    SCHOOL  SAVINGS  BANKS' 
By  SARA  LOUISA  OBERHOLTZER 

Through  the  school  savings  banks  system  in  our  public  schools 
the  boys  and  girls  in  the  United  States  have  saved  and  placed  to  their 
credit  over  five  million  dollars  during  the  last  twenty-five  years. 
The  work  has  been  forwarded  very  quietly,  and  without  public 
support. 

Mr.  John  H.  Thiry,  a  native  of  Belgium,  where  he  was  educated, 
and  later  an  instructor  in  schools,  came  to  New  York  in  1859.  He 
was  there  engaged  in  the  book  business,  buying  and  selling  rare 
books,  preferably  French  and  German  ones.  In  1870  he  took  up  his 
residence  in  the  Dutch  Kills  section  of  Long  Island  City,  devoting 
himself  to  horticulture,  chiefly  grape  culture.  In  1884  he  became  one 
of  the  school  commissioners  of  the  Long  Island  City  public  schools, 
and  in  1885  he  instituted  the  school  savings  banks  system  in  one  of 
the  schools  there.  The  system  under  his  care  soon  extended  to  all  the 
public  schools.  It  was  simply  the  calling  of  the  role  for  the  collection 
of  the  children's  penny  savings  each  Monday  morning  and  placing 
them  in  a  bank  to  their  individual  credit. 

The  amount  saved  by  the  boys  and  girls  soon  attained  considerable 
size,  and  their  development  in  self-responsibility,  industrs^  and  apt- 
ness in  study  was  remarked.  The  public  schools  in  Islip,  Amsterdam, 
Jamaica,  and  a  few  other  points,  through  Mr.  Thiry's  lead,  adopted 
the  system.  Mr.  Thiry  had  his  Scholar's  Card  copyrighted  and 
began  printing  statistics  annually,  giving  the  figures  of  the  school 
savings,  combined  with  valuable  information  on  the  subject. 

In  1889  the  writer,  through  her  literary  work,  became  associated 
with  Mr.  Thiry  in  this  philanthropy,  and  presented  the  subject  of 
thrift  teaching  through  the  school  savings  banks  system  to  Teachers' 
Institutes,  the  Academy  of  Political  and  Social  Science,  the  National 
Council  of  Women,  the  World's  and  National  Woman's  Christian 
Temperance  Union,  and  other  bodies,  introducing  the  school  savings 
banks  into  a  number  of  Pennsylvania  public  schools,  reaching  out 
into  other  States,  and  to  Canada  and  the  Provinces.    The  privilege 

'  Adapted  from  the  Banking  Law  Journal,  XXIX  (1912),  797-98. 


INVESTMENT  BANKING  INSTITUTIONS  419 

of  the  copyright  card  was  given  to  her  for  the  United  States,  and  the 
work  has  gone  on  quietly,  steadily,  and  continuously,  Mr.  Thir>' 
doing  much  for  the  cause,  making  up  the  statistics  each  year  and 
printing  them  for  free  distribution.  The  last  of  these  statistical 
tables,  for  which  we  collected  the  matter  jointly,  was  printed  Jan- 
uary, 1910,  and  reports  1,168  schools  using  the  school  savings-bank 
system,  and  that  the  scholars  in  these  schools  have  saved  since  its 
introduction  $5,051,644.60. 

School  savings  are  now  collected  in  some  schools  in  almost  every 
State  in  the  Union,  and  in  Alaska  and  Porto  Rico.  It  is  almost 
impossible  to  secure  full  statistics  of  the  savings  of  the  children  in 
all  the  schools  using  the  system;  we  have  not  been  able  to  make 
them  complete  for  several  years.  The  work  has  been  rather  a  lone 
philanthropy,  without  financial  support,  except  a  slight  appropria- 
tion from  the  Woman's  Christian  Temperance  Union.  There  are 
W.C.T.U.  aids  in  some  of  the  States,  their  mission  being  to  distribute 
the  school  savings  literature  and  assist  in  the  extension  of  the  work. 

The  Comptroller  of  the  Currency  at  Washington  is  aiding  this 
year  in  collecting  and  compiling  the  statistics.  He  has  sent  out  our 
blanks  for  reports  to  the  different  schools  using  the  school  savings 
system. 

207.    THE  ARGUMENT  FOR  POSTAL  SAVINGS  BANKS' 
By  GEORGE  VON  L.  MEYER 

It  behooves  us  as  a  Government  to  do  ever>'thing  that  is  possible 
to  encourage  among  our  own  people  the  habits  of  thrift.  American 
wastefulness  and  extravagance  are  well  recognized,  and  we  should 
acquire  to  a  greater  extent  the  art  of  husbanding  our  resources  and 
of  making  a  little  go  a  great  way. 

Within  the  past  seven  years  more  than  seven  millions  of  foreigners 
have  come  to  our  shores,  and  in  twenty-five  years  12,640,397  have 
arrived.  A  great  number  of  these  people  are  setting  us  an  example 
of  what  small  savings  can  do  by  sending  to  European  countries 
$72,000,000  in  the  last  fiscal  year.  Within  a  period  of  six  months — 
from  May  15  to  November  15,  1907 — the  amount  which  went  out 
to  replenish  foreign  coffers  was  $49,621,000.  These  figures  represent 
only  the  amounts  that  have  been  forwarded  through  the  medium  of 

'Adapted  from  "Postal  Savings  Banks,"  The  Independent,  LXIV  (1908), 
9-11. 


420  PRINCIPLES  OF  MONEY  AND  BANKING 

postal  money  orders,  and  do  not  take  into  account  the  vast  sums 
which  are  remitted  to  foreign  lands  by  Ijanks  and  express  com- 
panies. 

A  striking  fact  is  that  92  per  cent  of  the  money  on  deposit  in 
savings  banks  is  in  eleven  States  of  the  Union — the  New  England 
States  (comprising  Maine,  New  Hampshire,  Vermont,  Massachusetts, 
Connecticut,  and  Rhode  Island),  New. York,  Pennsylvania,  Illinois, 
Iowa,  and  California,  thus  leaving  thirty-five  States  representing 
deposits  of  only  8  per  cent.  This  demonstrates  plainly  that  the 
opportunities  for  depositing  money  in  savings  banks  has  not  been 
sufl5ciently  developed,  especially  in  the  South  and  West. 

Every  facility  should  be  open  to  our  people,  and  every  man, 
woman,  and  child  should  be  able  to  deposit  savings  in  any  portion 
of  the  country  at  any  time  of  the  day.  This  can  be  afforded  by  the 
Post-Office  Department,  because  the  post-office  is  established  in 
every  city,  town,  and  village,  there  being  exactly  61,814  post-offices. 
The  postal  savings  bank,  besides  encouraging  economy  and  thrift, 
would  afford  a  place  of  deposit,  free  from  any  possibility  of  doubt 
or  suspicion,  for  vast  sums  of  money  which  might  otherwise  be 
hoarded  and  kept  out  of  circulation  through  ignorance  or  lack  of 
confidence.  Wherever  it  may  be,  this  money  has  lost  its  proper 
functions,  and  the  business  of  the  nation  not  only  receives  no  benefit 
from  it,  but  even  the  prosperity  of  the  country  suffers,  and  may  be 
eventually  destroyed. 

The  laboring  man  going  home  at  the  end  of  the  week  would 
frequently  put  his  money  in  the  savings  banks  if  the  opportunity 
were  open  to  him,  but  he  returns  from  his  employment  at  a  time  of 
the  day  when  the  banks  are  closed  and  the  saloons  are  open. 

As  an  evidence  of  good  faith  that  there  is  no  intention  or  desire 
to  compete  with  existing  savings  banks  the  rate  of  interest  recom- 
mended is  2  per  cent,  the  amount  of  deposit  being  limited  to  $500 
for  any  individual  or  society.  The  Government  (Post-Office  Depart- 
ment) is  a  preferred  creditor,  and  the  Postmaster-General  does  not 
ask  that  any  Government  bonds  shall  be  given  as  collateral  for  the 
deposits,  as  it  is  not  desirable  to  absorb  the  bonds  for  that  purpose, 
but  that  they  be  left  free  for  currency.  The  Post-Office  Department, 
would  be  secured  as  being  a  preferred  creditor  and  by  reason  of  the 
liability  of  the  stockholders  of  national  banks  for  double  the  amount 
of  stock  held  by  them,  and  the  facility  (through  the  Comptroller  of 
the  Currency)  of  examining  the  banks  at  any  time. 


INVESTMENT  BANKING  INSTITUTIONS  42 1 

In  answer  to  the  j)oint  which  has  been  raised  in  a  very  few  in- 
stances, that  this  would  tend  to  encourage  depositors  to  take  their 
money  from  State  or  national  banks,  it  is  self-evident  that  any  indi- 
vidual who  has  the  intelligence  to  go  to  a  national  or  State  bank 
with  his  deposit  does  so  for  the  advantage  of  having  it  subject  to 
payment  by  check,  and  in  order  to  obtain  accommodations  in  the 
way  of  discounts  of  his  own  paper  or  that  of  his  business  clients. 
No  business  accommodations  of  any  kind  or  description  would  be 
obtained  at  a  postal  savings  bank,  not  even  that  of  drawing  the 
money  by  check. 

As  to  the  effect  it  would  have  on  savings  banks,  it  requires  but 
very  little  thought  to  convince  one  that  a  dci)osilor  who  has  his 
money  in  a  savings  bank  (where  he  is  receiving  3  or  4  per  cent)  will 
not  withdraw  it  and  place  it  with  the  postal  savings  bank,  thus 
reducing  his  interest  by  one-third  or  one-half,  except  possibly  in  times 
of  crises  or  flurries,  such  as  we  have  e\']:)erienced  lately;  and  at  such 
moments  the  great  advantage  of  the  postal  savings  banks  would  be 
felt  because  of  the  guarantee  of  the  Government  behind  the  deposits. 
The  Government  would  be  enabled  to  lead  the  money  back  instantly 
into  the  channels  of  trade  through  the  national  banks  in  the  same 
locality,  and  be  instrumental  in  overcoming  sudden  stringencies  due 
to  large  numbers  of  depositors  taking  their  money  out  of  circulation 
or  hoarding  it. 

208.    SOME  DETAILS  OF  THE  POSTAL  SAVINGS  SYSTEM' 

An  account  may  be  opened  and  accounts  made  by  any  person  of 
the  age  of  ten  years  or  mof e,  in  his  or  her  own  name,  and  by  a  married 
woman  in  her  own  name,  and  free  from  any  control  or  interference 
by  her  husband;  but  no  person  may  at  the  same  time  have  more 
than  one  Postal  Savings  account. 

Deposits  will  be  accepted  only  from  individuals  and  no  account 
will  be  opened  in  the  name  of  any  coqioration,  association,  society, 
firm,  etc.,  or  in  the  names  of  two  or  more  persons  jointly.  No  account 
will  be  made  in  trust  for  another  person  (as  is  the  case  in  many  foreign 
countries). 

No  person  will  be  permitted  to  deposit  more  than  Sioo  in  any 
one  calendar  month,  nor  will  the  balance  to  the  credit  of  any  depositor 
be  allowed  to  exceed  $500,  e.xclusive  of  accumulated  interest. 

'  From  Instructions  Issued  to  Postmasters  by  the  Postmaster-General. 


422  TRINCIPLES  OF  MONEY  AND  BANKING 

No  account  may  be  opened  for  less  than  $i,  nor  will  fractions  of 
one  dollar  be  accepted  for  deposit  at  any  time. 

The  interest  rate  shall  be  2  per  cent  on  deposits  which  have 
remained  for  at  least  one  year,  and  will  be  computed  only  from  the 
first  of  the  month  following  the  day  on  which  the  deposit  was  made. 

Postal  Savings  deposits  will  be  evidenced  by  certificates  of  deposit 
issued  in  the  name  of  the  depositor.  These  will  be  non-transferable 
and  non-negotiable. 

To  enable  any  person  to  accumulate  and  deposit  amounts  less 
than  one  dollar,  depository  offices  will  keep  for  sale  postal  savings 
cards  at  10  cents  each  and  lo-cent  Postal  Savings  stamps  which  may 
be  afl&xed  to  the  cards.  One  card  and  nine  stamps  will  be  accepted 
as  a  deposit  of  one  dollar. 

Postmasters  at  depository  oflfices  must  deposit  daily  all  moneys 
received  by  them  on  account  of  Postal  Savings  business  in  local 
banks  which  have  qualified  as  depository  banks  under  the  Act  of 
Congress  and  the  regulation  adopted  by  the  Board  of  Trustees,  and 
if  no  local  bank  has  so  qualified,  deposits  must  be  remitted  daily  by 
registered  mail  to  other  banks  most  convenient  to  the  locality,  which 
have  qualified  as  depositories. 

Any  depositor  may  withdraw  the  whole  or  part  of  his  funds  by 
surrendering  at  the  depository  office  the  savings  certificates  properly 
endorsed. 

When  the  Postmaster  has  not  sufficient  postal  savings  funds  on 
hand  to  pay  demands  for  withdrawals,  he  must  draw  on  the  emer- 
gency credit  allowed  him  by  the  Postmaster-General.  If  the 
emergency  credit  is  insufficient  to  meet  the  demands,  he  must  report 
the  fact  at  once  to  the  Postmaster-General,  the  right  being  resers-ed 
to  defer  payments  until  the  necessary  funds  can  be  furnished  to  the 
Postmaster. 

Accounts  are  to  be  kept  private;  no  person  connected  with  the 
Post-Office  Department  to  give  any  information  concerning  them. 

The  deposits  of  postal  funds  in  banks  are  to  bear  interest  at  the 
rate  of  not  less  than  2j  per  cent.  No  bank,  however,  is  allowed  to 
receive  a  sum  greater  than  its  capital  and  one-half  of  its  surplus. 

The  Act  requires  that  the  Board  of  Trustees  shall  withdraw  5 
per  cent  of  the  total  receipts  to  be  held  as  a  reserve  fund  and  at  its 
discretion  may  withdraw  30  per  cent  more  for  investment  in  bonds 
and  other  securities  of  the  United  States.  The  remaining  65  per 
cent  is  to  be  kept  as  a  working  balance  and  may  only  be  withdra\\Ti 
by  order  of  the  President  under  extraordinary  public  conditions.    All 


INVESTMENT  BANKING  INSTITUTIONS  423 

of  the  funds  must  be  available,  at  all  times,  for  the  payment  of 
depositors. 

The  limit  of  $500  as  the  account  of  any  one  depositor  does  not, 
however,  limit  the  possibility  of  utilizing  the  postal  savings  banks 
to  any  extent,  for  the  law  provides  for  the  purchase,  by  depositors, 
of  United  States  Postal  Savings  bonds,  bearing  2I  per  cent  interest 
and  payable  in  twenty  years.  The  provisions  of  the  act  with  reference 
to  these  bonds  are  as  follows: 

Sec.  10.  That  any  depositor  in  a  postal  savings  dep)ository  may  sur- 
render his  deposit  or  any  part  thereof,  in  sums  of  twenty  dollars,  forty 
dollars,  sixty  dollars,  eighty  dollars,  one  hundred  dollars,  and  multiples 
of  one  hundred  dollars  and  five  hundred  dollars,  and  receive  in  lieu  of  such 
surrendered  deposits,  under  such  regulations  as  may  be  established  by  the 
board  of  trustees,  the  amount  of  the  surrendered  deposits  in  United  States 
coupon  or  registered  bonds  of  the  denominations  of  twenty  dollars,  forty 
dollars,  sixty  dollars,  eighty  dollars,  one  hundred  dollars,  and  five  hundred 
dollars,  which  bonds  shall  bear  interest  at  the  rate  of  2^  per  centum  per 
annum,  payable  semiannually,  and  be  redeemable  at  the  pleasure  of  the 
United  States  after  one  year  from  the  date  of  their  issue  and  payable 
twenty  years  from  such  dale,  and  both  principal  and  interest  shall  be 
payable  in  United  States  gold  coin  of  the  present  standard  of  value:  Pro- 
vided, That  the  bonds  herein  authorized  shall  be  issued  only  (first)  when 
there  are  outstanding  bonds  of  the  United  States  subject  to  call,  in  which 
case  the  proceeds  of  the  bonds  shall  be  applied  to  the  redemption  at  par  of 
outstanding  bonds  of  the  United  States  subject  to  call,  and  (second)  at 
times  when  under  authority  of  law  other  than  that  contained  in  this  .\ct 
the  Government  desires  to  issue  bonds  for  the  purpose  of  replenishing  the 
Treasury,  in  which  case  the  issue  of  bonds  under  authority  of  this  .\ct  shall 
be  in  lieu  of  the  issue  of  a  like  amount  of  bonds  issuable  under  authority  of 

law  other  than  that  contained  in  this  Act Atul  provided  further, 

That  the  bonds  herein  authorized  shall  be  exempt  from  all  taxes  or  duties 
of  the  United  States  as  well  as  from  ta.xation  in  any  form  by  or  under 
stale,  municipal,  or  local  authority:  And  provided  further,  That  no  bonds 
authorized  by  this  .Act  shall  be  receivable  by  the  Treasurer  of  the  United 
States  as  security  for  the  issue  of  circulating  notes  by  national  banking 
associations. 

209.  SUCCESS  OF  THE  POSTVL  SAVINGS  SYSTEM' 

The  fiscal  year  19 14  witnessed  a  steady,  healthy,  and  substantial 
growth  of  the  Postal  Savings  System.  On  June  30  the  number  of 
depositors  was  388,511,  and  the  amount  on  deposit  to  their  credit 

'  Adapted  from  the  Annual  Report  of  the  rosimastcr  General,  1914,  pp.  27-59. 


424  PRINCIPLES  OF  MONEY  AND  BANKING 

was  $43,444,271,  a  gain  for  the  year  of  57,505  depositors  and  $9,625,- 
401  in  deposits.  The  average  principal  per  depositor  increased  from 
$102  to  $111.82.  Savings  facilities  were  available  at  9,639. post-offices 
(of  which  8,507  were  of  the  presidential  grade  and  1,132  of  the  fourth 
class)  and  at  708  branches  and  stations,  making  a  total  of  10,347 
depositories  in  operation. 

The  proponents  of  the  system,  among  other  arguments  advanced 
in  support  of  the  enactment  of  the  postal  savings  legislation,  asserted 
that  it  would  encourage  among  the  people  the  formation  of  habits  of 
economy  and  thrift.  On  June  30,  191 1,  six  months  after  the  system 
began  operation,  there  were  11,918  depositors,  and  the  average  bal- 
ance was  $56.82.  At  the  close  of  each  six  months'  period  thereafter 
substantial  increases  in  the  number  of  depositors  and  the  average 
balance  are  shown,  until,  on  June  30,  1914,  there  were  388,511  deposi- 
tors, and  the  average  balance  was  $111.82.  These  facts  afford  con- 
clusive proof  that  the  practical  operations  of  postal  savings  in  this 
country  have  amply  fulfilled  the  predictions  of  its  advocates. 

The  safety  and  security  afforded  by  the  postal  savings  deposi- 
tories have  been  a  source  of  strength  and  protection  to  our  people 
in  time  of  stress  and  the  means  of  steadying  financial  conditions  in 
the  United  States.  Many  foreign-born  citizens  who  have  patronized 
these  institutions  are  resorting  more  freely  to  their  use  during  the 
present  European  crisis  and  will  doubtless  continue  to  do  so  even  in 
larger  measure  when  normal  business  conditions  shall  have  been 
restored. 

Evidence  is  conclusive,  however,  that  the  postal  savings  facility 
would  have  served  a  greater  usefulness  and  would  have  been  the 
means  of  restoring  a  much  larger  amount  of  money  to  business  uses 
were  it  not  for  the  provisions  of  the  law  which  limit  the  amount  that 
may  be  accepted  from  a  depositor  to  $100  in  a  calendar  month  and 
restrict  his  maximum  deposit  to  $500.  The  inability  of  a  prospective 
patron  to  deposit  all  his  accumulated  savings  results  in  confusion  of 
thought,  which  frequently  leads  to  a  refusal  to  deposit  any  part  of 
them.  Such  funds  invariably  go  back  into  hiding  and  disuse.  The 
precautionary  limitations  of  the  law  were  no  doubt  inserted  because 
the  service  was  new  in  this  country  and,  in  a  sense,  experimental. 
While  it  is  believed  that  the  interest  of  the  pubUc  will  be  best  served 
by  ultimately  removing  altogether  the  restrictions  on  the  amount 
that  may  be  accepted  on  deposit,  it  is  manifest  that  this  condition 
should  be  approached  gradually  and  as  experience  in  administering 


INVESTMENT  BANKING  LXSTITUTK  )NS  425 

the  system  indicates  that  additional  steps  may  be  taken  toward  the 
desired  goal.  It  is  recommended,  therefore,  that  the  provision  in 
the  postal  savings  act  which  limits  the  amount  that  may  be  accepted 
from  a  depositor  in  a  calendar  month  to  Sioo  be  removed,  and  that 
the  maximum  balance  which  may  be  accepted  be  increased,  under 
certain  conditions,  to  $2,000,  but  limiting  the  amount  on  which 
interest  shall  be  paid  to  $1,000. 

210.    THE  FUTURE  OF  SAVINGS  BANKS' 
Bv  MILTON  W.  HARRISON 

If  space  would  allow,  an  interesting  discussion  may  be  had  with 
relation  to  the  future  of  savings  banking  in  the  United  States.  Such 
questions  as:  whether  capitalized  savings  banks  should  establish 
branches  and  sub-branches  on  a  large  scale  so  as  to  make  it  possible 
for  the  wage-earner  to  more  easily  save  his  money;  whether  the 
Postal  Savings  System  should  be  extended;  the  desiraljility  of  munici- 
pal savings  banks  for  the  sale  of  municipal  bonds,  thereby  eliminating 
the  middleman's  profits  and  a  consequent  saving  to  the  municipality; 
the  question  of  the  creation  of  Federal  legislation  and  establishing 
savings  departments  for  Federal  l)anks,  would  certainly  be  both  \ital 
and  timely. 

Only  a  few  months  ago  a  plan  for  a  municipal  savings  bank  was 
offered  by  Adolph  Lewisohn.  The  plan  provided  that  the  city  estab- 
lish ofBces  of  deposit,  probably  branches  of  the  Bureau  of  City 
Treasury  in  the  Department  of  Finance  or  of  some  similar  bureau 
which  might  be  created  in  that  Department,  for  the  puq:)ose  of  receiv- 
ing deposits  from  persons  desiring  to  invest  their  savings  in  the  city's 
credit;  that  depositors  receive  scrip  or  other  evidence  of  the  city's 
obligation  to  return  the  deposits;  that  the  return  of  the  deposits  be 
secured  either  l)y  the  general  credit  of  the  city  or  by  the  pledge  of 
city  bonds  with  some  Ijoard  or  other  ofTicial  agency  duly  authorized; 
that  the  city  have  the  use  of  the  funds  on  deposit  for  j)uri>oses  for 
which  it  might  use  the  proceeds  of  corporate  stock  or  other  city  bonds; 
that  the  city  pay  from  2J  per  cent  to  3^  per  cent  (var>'ing  according 
to  money  market  and  other  conditions)  interest  on  deposits  and 
redeem  the  scrip  or  repay  the  deposit  on  thirty  or  sixty  days'  notice, 
or  on  demand,  the  city  in  that  case,  however,  reserving  the  right  to 

'  Adapted  from  "Savings  Banking  in  the  United  States,"  Journal  of  American 
Bankers'  Association,  \'I1I  (1916),  734. 


426  PRINCIPLES  OF  MONEY  AND  BANKING 

require  such  thirty  or  sixty  days'  notice;  that  depositors  of  $ioo  or 
more  have  the  right  to  convert  their  scrip  into  city  bonds  issued 
directly  to  them. 

211.    LIFE  INSURANCE  COMPANIES  AS  INVESTMENT 
INSTITUTIONS' 

By  a.  S.  JOHNSON 

From  a  financial  point  of  view  the  life  insurance  company  is  a 
device  for  accumulating  savings  which  shall  be  returned,  not  to  the 
man  who  saves,  but  to  his  heirs  at  his  demise.  Some  of  the  insured, 
it  is  true,  die  long  before  the  sum  of  the  premiums  they  have  paid 
equals  the  sum  that  the  insurance  company  has  agreed  to  pay  at  their 
death.  On  the  average,  however,  the  insured  live  long  enough  so 
that  their  premiums,  together  with  the  earnings  of  the  capital  which 
those  premiums  form,  are  at  least  equal  to  the  sums  which  the  insur- 
ance company  pays  out  in  death  claims. 

It  is  obvious  that  in  a  country  like  the  United  States,  where  life 
insurance  is  exceedingly  common,  immense  sums  of  money  must  be 
collected  by  the  companies  every  year  to  be  held  as  a  reserve  against 
death  claims.  As  the  business  of  life  insurance  is  steadily  growing, 
the  funds  accumulated  by  these  companies  are  also  increasing.  The 
annual  receipts  of  practically  every  important  life  insurance  company 
exceed  the  annual  disbursements.  Accordingly,  a  life  insurance  com- 
pany may  invest  its  funds  without  much  regard  to  the  possibility  of 
turning  its  investments  into  cash  at  short  notice.  It  is  important, 
however,  that  the  business  should  be  conducted  in  a  conservative 
manner,  since  the  failure  of  an  insurance  company  would  be  a  more 
widely  felt  calamity  than  the  failure  of  almost  any  other  business 
enterprise  of  equal  magnitude.  The  loss  would  be  borne  in  the  end 
largely  by  the  dependents  of  propertyless  men. 

The  reserves  of  life  insurance  companies  are  largely  invested  in 
real  estate  mortgages,  in  state  and  municipal  bonds,  and  in  the  bonds 
of  railway,  commercial,  and  industrial  corporations.  Stock  invest- 
ments have  often  been  made  by  insurance  companies,  but  the  practice 
is  now  generally  regarded  with  disfavor,  since  the  values  of  stocks 
are  likely  to  show  a  wide  range  of  fluctuation. 

'  Adapted  from  Introduction  to  Economics,  pp.  320-21.  (D.  C.  Heath  &  Co., 
1909.) 


INVESTMENT  BANKING  INSTITUTIONS 


427 


212.    INVESTMENTS  OF  INSUIL\NCE  COMPANIES' 
By  ROBERT  LYNN  COX 

The  table  below  is  for  all  American  companies  whose  figures  were 
tabulated  in  the  Insurance  Year  Book  for  their  respective  dates. 

ASSETS  OF  AMERICAN  LIFE  INSURANCE  COMPANIES 


December  31,  1904     December  31,  igi4 


Real  estate '    $   180,875,035 


Real  estate  mortgages 

Bonds 

Stocks 

Collateral  loans 

Policy  loans  and  premium 

notes 

Cash 

Deferred  premiums 

All  other  assets 


671,577,813 

1,067,027,851 

172,582,975 

42,715,261 

189,738,779 
104,027,124 

45,879,455 
24,636,705 


$  171,173,551 
1,706,365,405 
1,981,751,698 

82,552,532 
20,351,766 

735,348,014 
95,160,368 
68,832,680 
73,716,779 


Total  admitted  assets    $2,499,060,998  j   $4,935,252,793 

Some  notable  features  in  the  above  table  attract  the  attention 
at  once.  First,  and  most  important  of  all,  is  the  fact  that  in  ten 
years'  time  the  assets  of  American  companies  have  practically  doubled 
in  amount.  Great  as  was  this  increase  in  the  family-protection  funds 
of  the  countr}',  it  only  kept  pace  with  the  increase  in  national  wealth, 
which  also  about  doubled  during  the  same  period.  The  next  striking 
fact  is  that  investments  in  real  estate  mortgages  are  two  and  one-half 
times  as  large,  increasing  from  $671,000,000  to  $1,706,000,000.  On 
examining  the  relations  of  the  various  classes  of  investments  to  each 
other,  as  given  in  the  column  showing  the  percentage  of  assets  invested 
in  the  different  kinds  of  securities,  we  find  that  during  this  period 
the  companies'  holdings  in  real  estate  have  decreased  more  than  one- 
half  in  ratio  to  other  securities,  and  have  actually  decreased  in  amount 
over  $9,700,000.  The  percentage  of  investments  in  stocks  is  less  than 
one-fourth  what  it  was  ten  years  ago  and  in  actual  amount  is  about 
$90,000,000  less.  The  percentage  of  collateral  loans  is  less  than  one- 
fourth  what  it  was  ten  years  ago  and  in  actual  amount  over  $22,000,- 
000  less.  Cash  on  hand  also  has  been  reduced  one-half  in  percentage 
and  nearly  $9,000,000  in  amount.  In  short,  the  trend  of  the  times 
has  been  to  reduce  investments  in  stocks,  collateral  loans,  and  real 


'  Adapted  from  InvrstvinU  News,  V,  No.  2  (1916),  24. 


428  PRINCIPLES  OF  MONEY  AND  BANKING 

estate,  also  to  reduce  the  proportion  of  cash  carried  in  offices  and 
banks  and  to  materially  increase  the  amount  and  proportion  of 
investments  in  real  estate  mortgages  and  policy  loans. 

In  view  of  the  fact  that  life  insurance  companies  held  over  $1,700,- 
000,000  in  real  estate  mortgages  and  their  ratio  to  other  assets  has 
been  steadily  increasing,  it  seemed  desirable  to  make  a  critical  exami- 
nation of  these  securities  by  a  geographical  distribution  of  amounts 
loaned  on  farms  compared  with  other  real  property,  average  interest 
rates,  etc.  To  this  end  we  invited  the  co-operation  of  the  life  insur- 
ance companies  of  the  country  and  received  responses  giving  data  by 
states  and  class  of  securities  from  125  companies  and  tabulated  the 
investments  of  the  only  large  company  which  declined  to  report.  So 
our  tables  include  the  mortgage  loans  of  126  companies  whose  real 
estate  mortgage  loans  amounted  to  97  per  cent  of  all  such  loans  held 
by  American  companies.  The  total  loans,  divided  between  farms  and 
other  real  property,  but  not  separated  by  states,  supplied  by  22  other 
companies,  enables  us  to  show  the  separation  between  farm  and 
other  real  property  loans  of  98^  per  cent  of  all  the  outstanding  mort- 
gages of  American  companies.  Of  these  148  companies,  17  make 
loans  only  on  farm  property,  15  only  on  real  property  in  cities,  towns, 
or  villages,  while  116  loan  on  both  farm  and  city  properties.  The 
amount  loaned  by  the  17  farm  loan  companies  is  $12,827,709.  The 
amount  loaned  by  the  15  city  loan  companies  is  $426,260,163,  and 
the  amount  loaned  by  the  116  companies  loaning  on  both  is  $1,158,- 
014,595.  There  are  102  American  companies  whose  figures  are  not 
included,  but  as  their  combined  mortgage  loans  amounted  to  but 
$29,262,938,  or  if  per  cent  of  the  total  held  by  all  American  com- 
panies, their  absence  will  not  affect  materially  the  completeness  of 
this  tabulation  of  life  insurance  mortgage  investments. 

The  total  mortgage  loans  of  these  148  companies  amounted  to 
$1,677,102,467,  of  which  $654,650,505.72,  or  39.03  per  ceat,  were  on 
United  States  farms;  $993,480,170.03,  or  59.24  per  cent,  were  on 
other  real  property  in  the  United  States,  and  the  balance — $28,971,- 
792.14,  or  1.73  per  cent — was  loaned  on  real  estate  mortgages  in 
Porto  Rico  and  foreign  countries,  most  of  it  in  Canada. 

The  proportion  of  mortgage  loans  on  farms  varies  all  the  way 
from  thirteen-hundredths  of  i  per  cent  in  the  ISIiddle  Atlantic  group 
of  States  to  86  per  cent  in  the  Northwestern  group,  the  average  for 
148  companies  in  America  being  39.72  per  cent  of  their  total  United 
States  mortgage  loans.    In  the  Eastern  States  the  amount  loaned  on 


INVESTMENT  BANKING  INSTITUTIONS 


429 


farms  is  negligible,  in  the  Central,  Northern,  and  Southern  groups 
the  farm  loans  rise  to  considerable  amounts,  but  it  is  in  the  great 
Southwestern  and  Northwestern  sections,  whose  agricultural  develop- 
ment in  the  last  fifty  years  has  been  so  marvelous,  that  the  great 
bulk  of  the  life  insurance  farm  loans  has  been  placed.  On  the  other 
hand,  we  find  that  over  half  of  the  loans  on  real  property  other  than 
farms  have  been  placed  in  the  populous  commercial  and  manufac- 
turing sections  of  the  New  England  and  IVIiddle  Atlantic  States,  which 
contain  ver\'  nearly  half  of  such  property  values  of  the  entire  countr\'. 

B.     Investment  Banks  or  Bond  Houses 

213.    THE  MARKETING  OF  BONDS' 

By  THEO.  H.  price 

The  process  of  bond  distribution  is  carried  on  mainly  by  three 
groups  of  men,  or  institutions.  While  there  is  much  overlapping  in 
the  functions  performed,  those  engaged  in  the  marketing  of  bonds 
may  be  roughly  differentiated  as  to  the  field  in  which  they  are  most 
conspicuously  active.  These  three  groups  are:  (i)  the  houses  of 
first  purchase,  (2)  the  underwriters,  (3)  the  houses  of  distribution. 
This  may  be  conceived  of  as  three  concentric  circles,  thus: 


'  Adapted  from  an  article  on  "Commerce  and  Finance,"  Outlook,  CVI  (1914), 
429-30,  598-601. 


430  PRINCIPLES  OF  MONEY  AND  BANKING 

The  houses  of  first  purchase  compose  a  group  small  numerically 
but  strong  financially.  Until  recently  it  was  supposed  that  member- 
ship in  the  so-called  "Money  Trust"  was  a  condition  of  inclusion 
within  this  group.  This  idea  is  now  exploded,  for  it  is  realized  that 
some  of  the  houses  in  the  inner  group  are  both  able  and  willing  to  act 
with  absolute  independence.  In  New  York  there  are  perhaps  seven 
or  eight  firms  who  may  be  classified  as  "houses  of  first  purchase" 
for  bond  issues  of  five  million  dollars  or  over.  In  Boston  there  are 
three,  or  possibly  four,  and  in  Chicago  and  Philadelphia  two  each. 

In  the  cities  named,  as  well  as  in  St.  Louis,  Cleveland,  Baltimore, 
Pittsburgh,  Cincinnati,  Denver,  and  San  Francisco,  there  are  a  num- 
ber of  concerns  that  are  entirely  competent  to  take  the  initiative 
in  handling  relatively  small  issues,  but  when  the  amount  involved 
exceeds  three  or  four  millions  it  is  generally  found  necessar>'  to  enlist 
the  services  of  one  of  the  larger  organizations.  Under  conditions  as 
they  are  and  have  been,  few  houses  have  had  the  enabling  credit 
and  capital  required  to  buy  outright  a  large  issue  of  bonds  and  the 
prestige  necessary  to  insure  their  subsequent  distribution.  The 
would-be  borrower  cannot  afford  to  deal  with  any  concern  not  able 
to  promptly  say  Yes  or  No  to  his  proposition,  and  large  resources, 
commanding  position,  and  a  reputation  for  success  are  essential  to 
any  firm  or  corporation  that  would  buy  ten  or  twenty  million  dollars' 
worth  of  bonds  and  thereafter  market  them  profitably. 

When  such  an  issue  has  been  bought,  the  buyer  almost  invariably 
proceeds  at  once  to  minimize  his  risk  in  the  transaction  by  distributing 
it  among  the  underwriters.  The  function  of  this  group  will  be  better 
understood  in  the  light  of  etymology.  The  distribution  of  risk  which 
is  now  called  insurance  was  at  first  accomplished  by  an  agreement 
among  merchants  to  share  the  hazard  of  each  other's  ventures.  This 
agreement,  being  expressed  in  writing,  was  signed  by  the  various 
parties  thereto,  and  in  so  signing  they  wrote  their  names  under  it, 
thus  becoming  underwriters  or  insurers.  This  is  precisely  what  is 
done  in  the  underwriting  of  a  bond  issue,  except  that  the  principle 
of  co-operation  is  applied,  not  only  to  diminish  risk,  but  to  increase 
the  probability  of  a  reasonable  profit.  To  make  this  clear  the  illus- 
tration of  a  concrete  case  is  necessary.  Let  us  assume  that  a  firm  of 
bankers,  having  agreed  to  purchase  $20,000,000  of  45  per  cent  bonds 
at  90,  determine  to  offer  them  to  the  public  at  94  and  to  pay  the 
distributing  houses  who  may  finally  dispose  of  them  i|  per  cent  for 
their  services  and  expenses  in  distribution.    If  and  when  the  bonds  are 


INVESTMENT  BANKING  INSTITUTIONS  431 

sold  the  net  price  received  by  the  houses  of  original  purchase  will  be 
92I,  which  would  leave  them  2^  per  cent  profit  less  expenses.  It  is, 
however,  quite  possible  that  bonds  will  not  be  sold  at  94,  in  which 
case  the  original  purchasers  might  find  their  money  indefinitely  tied 
up  or  have  to  accept  a  substantial  loss  to  release  it.  To  guard  against 
this  contingency,  and  before  offering  the  bonds  at  94,  they  proceed 
to  divide  their  possible  profit  with  other  houses  or  individuals  who 
are  willing  to  share  the  risk  and  become  underwriters. 

These  underwriters  agree  to  buy  the  bonds  at  91  if  they  are  not 
taken  by  the  public  at  94,  less  the  distributor's  commission  of  if  per 
cent,  or  925  net. 

If  the  sale  is  a  success,  the  underwriters,  having  agreed  to  buy 
at  91  the  bonds  sold  at  92^,  receive  if  per  cent  for  the  risk  they  have 
assumed.  If  it  is  not  a  success,  they  must  take  the  bonds  at  91,  and 
the  original  purchasers  are  thus  assured  of  i  per  cent  profit  on  the 
transaction,  out  of  which  all  expenses  must  be  paid. 

For  the  chance  of  making  if  per  cent  on  the  amount  of  the  com- 
mitment, the  underwriters  face  the  possibility  of  haying  to  tie  up 
their  capital  indefinitely  or  accept  a  hea\y  loss;  and  the  losses  so 
accruing  during  the  past  two  years  would  surprise  the  uninitiated 
and  disabuse  them  of  the  idea  fostered  by  financial  novels  and  the 
drama  that  participation  in  a  Wall  Street  syndicate  implies  a  certainty 
of  profit.  In  the  selection  of  underwriters  care  is  generally  taken  to 
secure  concerns  or  individuals  whose  opinions  are  influential  in  invest- 
ment finance.  This  is  done  on  the  assumption  that  an  underwriter 
who  is  assured  of  if  per  cent  profit,  if  the  sale  is  successful,  will  do 
what  he  can  to  make  it  so.  As  a  matter  of  fact,  however,  this  theory 
is  not  to  be  relied  upon  in  practice,  so  far  as  the  American  markets 
are  concerned.  It  is  thought  to  be  an  important  factor  in  French 
finance,  from  which  it  is  supposed  the  idea  of  the  "underwriting 
syndicate"  was  derived,  but  in  the  United  States  sentiment  is  prop- 
erly ojjposed  to  it  upon  the  ground  that  no  one  can  disinterestedly 
advise  the  purchase  of  securities  by  the  sale  of  which  he  will  profit. 

The  duties  and  responsibilities  of  the  underwriters  are  therefore 
comparatively  simple  and  need  not  be  further  enlarged  upon.  There 
remain  to  be  considered  the  "Houses  of  Distribution,"  as  a  result 
of  whose  activities  the  bond  finally  passes  into  the  hands  of  the 
investor.  These  houses  are  very  numerous.  Some  of  them  have  large 
capital  and  great  organizations,  and  others  which  distribute  many 
securities  depend  entirely  upon  their  "connections"  and  a  clientele 


432  PRINCIPLES  OF  MONEY  AND  BANKING 

with  whom  their  relations  may  be  social  as  well  as  financial.  Many 
investors  prefer  to  deal  with  a  firm  whose  senior  partner  is  never  too 
busy  to  give  them  his  personal  attention,  and  the  son  or  son-in-law 
of  an  influential  officer  in  an  insurance  company  or  savings  bank 
often  becomes  a  partner  in  a  small  bond  house  for  the  patronage  he 
is  supposed  to  command. 

Outside  the  "Houses  of  Distribution"  proper  are  various  groups 
of  investors  who  generally  act  somewhat  in  accord.  Such  groups 
include: 

1.  An  insurance  company  and  its  directors,  who,  if  rich  men,  will 
probably  buy  for  their  own  account  some  portion  of  a  bond  issue 
that  their  company  has  taken. 

2.  A  firm  of  bankers  or  a  bank  in  a  smaller  city  that  supplies  a 
local  investment  demand. 

3.  A  European  group  or  syndicate  that  acts  as  a  secondary'  dis- 
tributor or  buys  securities  against  which  it  issues  its  owti  debentures, 
as  in  the  case  of  the  Scotch  trust  companies  and  the  investment 
associations  of  Holland. 

4.  Individual  trustees  or  law>^ers  charged  with  the  investment  of 
large  estates,  who  are  generally  willing  to  anticipate  their  requirements 
if  anything  specially  choice  is  for  sale. 

5.  Trust  companies  and  their  correlated  banks,  whose  purchases 
may  be  either  for  the  trust  funds  of  the  former  or  as  an  investment 
for  the  deposits  of  both. 

6.  Savings  banks,  which,  taken  as  a  class,  are  the  largest  institu- 
tional buyers  of  the  classes  of  bonds  to  which  they  are  restricted  by 
the  laws  of  the  various  States. 

The  list  of  the  various  subsidiary  groups  among  which  the  dis- 
tributor of  bonds  finds  his  best  market  might  be  extended  almost 
indefinitely,  but  those  described  will  give  a  reasonably  clear  idea  of 
what  may  be  called  the  headwaters  of  the  investment  stream  that 
must  be  kept  continually  flowing  into  the  bond  market. 

A  general  description  of  the  works  of  the  larger  houses  is  as  follows : 
Each  of  them  maintains  offices  in  New  York,  Boston,  Chicago, 
and  London.  Each  of  them  employs  about  eighty  salesmen,  whose 
salary,  expenses,  and  commissions  average  probably  $6,000  a  year 
apiece.  Their  American  offices  are  all  connected  by  private  wires, 
and  it  is  no  uncommon  thing  for  them  to  dispose  of  $5,000,000  worth 
of  bonds  in  a  day.  To  do  this  it  is,  of  course,  necessary  that  they 
should  be  in  constant  touch  with  institutions,  brokers,  or  groups 


INVESTMENT  BANKING  INSTITUTIONS  433 

who  can  act  quickly  and  l)uy  in  quantity,  and  with  such  buyers  they 
are  generally  willing  to  divide  part  of  their  profit,  the  practice  being 
to  allow  a  deduction  of  from  one-quarter  to  three-quarters  of  i  per 
cent,  depending  somewhat  on  the  amount  purchased. 

The  sale  of  a  large  issue  of  bonds  is  an  incident  that  in  many  of 
its  aspects  is  quite  dramatic. 

The  purchase,  in  the  first  instance,  has  been  quietly  negotiated. 
The  transaction  having  been  underwritten,  the  "Houses  of  First 
Purchase  "  proceeds  to  enlist  the  services  of  one  or  more  of  the  "  Houses 
of  Distribution." 

If  the  issue  is  a  very  large  one,  it  is  generally  considered  expedient 
to  associate  at  least  three,  and  sometimes  four  or  five,  distributing 
concerns  in  the  business.  They  are  selected  with  regard  to  the  terri- 
tory they  cover.  One  may  be  strongest  in  New  England,  another  in 
New  York  City,  another  in  the  Middle  West,  and  still  another  in  the 
Marj'land  and  Pennsylvania  districts.  If  the  bonds  belong  to  the  class 
that  can  be  sold  abroad,  a  foreign  house  or  one  with  strong  connec- 
tions in  London,  Amsterdam,  and  Frankfort  may  also  be  employed. 
The  offering  is  generally  made  over  the  names  of  the  associated  houses, 
but  a  division  of  territory  is  privately  agreed  upon  and  each  distributor 
is  alloted  the  quantity  that  he  expects  to  dispose  of  in  a  particular 
district.  Some  days  before  the  sale  is  advertised  the  larger  buyers  of 
bonds  in  each  district  are  canvassed  and  given  opportunity  to  say 
what  quantities  they  will  buy  or  care  to  have  "put  down"  to  them, 
less  their  usual  commission.  Preliminary  notices  of  the  impending 
issue  find  their  way  into  the  newspapers.  Public  interest  in  the  mat- 
ter is  aroused  and  frequently  advance  applications  for  large  amounts 
are  received.- 

Sometimes  the  bonds  are  bought  and  sold  on  the  so-called  "curb" 
markets  in  New  York,  Boston,  and  elsewhere  for  delivery  "if  and 
when  issued."  Such  transactions  may  antedate  the  actual  issue  for 
weeks,  and  the  price  established  is  often  above  that  at  which  it  is 
expected  the  bonds  will  be  oiTered.  The  effect  of  such  quotations  in 
quickening  public  interest  in  the  prospective  sale  is  amazing. 

Finally  the  advertisement  appears,  coupled  with  the  announce- 
ment that  no  applications  received  after  a  certain  day  and  hour  can 
be  considered,  and  the  right  is  reserved  to  reject  any  application  and 
to  allot  less  than  the  amount  applied  for. 

Occasionally  it  happens  that  all  the  bonds  have  been  sold  before 
the  advertisement  is  published,  in  which  case  it  is  supplemented  by 


434  PRINCIPLES  OF  MONEY  AND  BANKING 

the  statement  that  "this  advertisement  is  published  as  a  matter  of 
record  only,  all  the  issue  having  been  sold." 

The  publication  of  the  advertisement  under  such  circumstances 
is,  of  course,  entirely  unnecessary,  and  it  is  designed  only  to  call 
attention  to  the  success  of  the  offering  and  add  to  the  prestige  of  the 
houses  concerned. 

Firms  that  have  regard  for  their  reputation  will  not,  however, 
offer  bonds  by  advertisement  unless  they  have  previously  sold  a  very 
large  portion  of  the  issue. 

The  public  is  capricious,  and  to  offer  an  issue  and  not  sell  it  would 
seriously  injure  the  prestige  of  the  issuing  house. 

Nearly  all  the  work  of  salesmanship  is  therefore  done  before 
advertisement  or  in  connection  with  securities  that  are  not  advertised 
at  all,  being  bought  from  one  investor  and  sold  to  another.  This 
latter  class  of  business  has  enormously  increased  of  late.  Many  bond 
houses  make  a  practice  of  exchanging  new  securities  for  older  ones 
that  are  perhaps  better  "seasoned"  and  therefore  sell  on  a  lower 
interest  basis.    This  practice,  of  course,  involves  constant  trading. 

214.    THE  PRACTICAL  OPERATION  OF  BOND  HOUSES' 
By  LAWRENCE  CHAMBERLAIN 

The  purchasing  function. — ^If  a  municipal  loan  is  offered,  the 
purchase  is  a  comparatively  simple  matter,  provided  the  municipality 
is  well  known  to  the  fraternity.  Then  no  preliminary  investigation 
is  required;  a  bid  is  made  for  the  loan  at  the  current  market  rates 
and  acceptance  on  award  is  subject  to  the  approval  of  the  bidder's 
attorney  in  all  respects  affecting  the  validity  of  the  obligation. 

If  the  municipality  is  not  well  known  to  the  bidder,  a  quaHlied 
representative  will,  or  should  be,  sent  to  learn  at  first  hand  the 
physical  and  financial  condition  of  the  city  and  to  form  an  estimate 
of  its  probable  future  wiUingness  and  ability  to  meet  its  present  and 
future  obligations. 

If  a  corporation  loan  is  offered,  it  will  probably  be  submitted  at 
the  offices  of  the  bankers  by  a  representative  of  the  company  or  by  a 
promoter.  If  the  applicant  is  of  a  social  turn  of  mind,  he  will  prob- 
ably not  lack  company  of  his  kind  in  the  anteroom.  Competition, 
fortunately,  is  keen. 

'Adapted  from  Principles  oj  Bond  Investment,  pp.  516-22.  (Henry  Holt  & 
Co.,  1911.) 


INVESTMENT  BANKING  INSTITUTIONS  435 

The  first  step  in  the  process  of  elimination  (there  is  more  elimina- 
tion than  acceptance)  is  to  discard  the  propositions  of  companies 
that  conduct  a  kind  of  business  unfamiliar  to  the  bankers.  Except 
under  unusually  favorable  circumstances  the  highest  grade  of  bond 
houses  will  not  purchase  bonds  of  industrial  corporations,  mining  or 
irrigation  companies,  etc. 

The  next  step  is  to  discard  loans  that  have  not  a  claim  on  property 
worth,  under  the  most  unfavorable  conditions,  more  than  the  amount 
of  the  obligation.  Most  corporations  will  bond  themselves  in  as  large 
a  sum  as  their  bankers  will  permit.  Loans  are  continually  being 
rejected  because  of  insufiicient  equity  in  property  values. 

The  third  step  is  to  discard  those  propositions  which  do  not  give 
reasonable  assurance  of  earning  at  all  times  at  least  50  per  cent  more 
than  all  fixed  charges,  after  making  extremely  liberal  estimates  for 
future  increased  operating  expenses. 

The  fourth  step  is  to  decline  loans  to  companies  conducted  by 
men  or  with  methods  which  do  not  meet  with  approval. 

If  the  house  is  satisfied  by  interview  and  correspondence  in  mat- 
ters of  the  above  nature,  and  if  a  suitable  price  can  be  agreed  upon, 
then  engineers  and  accountants  may  be  sent  to  the  plant  and  offices 
to  make  a  thorough  examination;  and  the  members  of  the  firm,  with 
counsel,  meet  officers  of  the  company  and  their  attorneys  to  settle 
the  matters  of  form.  On  acceptance  of  an  issue  a  careful  banking 
house  may  demand  representation  on  the  directorate  of  the  company 
until  such  time  as  the  company  shall  have  discharged  its  bonded 
obligation. 

There  is  a  difference  in  the  degree  of  care  exercised  by  various 
houses.  The  ultra-conservative  will  not  permit  their  names  to  be 
associated  with  "construction  propositions."  They  will  consider  for 
purchase  the  obligations  of  only  seasoned  companies  with  established 
earning  power. 

The  reactionary  effect  of  the  stringent  requirements  of  bond 
houses  is  of  inestimable  benefit  to  corporation  finance,  but  its  good 
influence  has  a  wider  sphere;  it  embraces  municipal  corjwrations  and 
municipal  finance.  American  bond  houses  have  put  municipal  bond 
buying  on  an  entirely  different  plane  from  what  it  was  in  1875.  In 
this  they  have  been  helped  by,  and  have  helped,  the  development  of 
municipal  bond  law.  In  these  days  cities  and  towns  that  have  had 
much  e.xperience  placing  bonds  will  be  certain  in  advance  of  their 
advertisements  for  bids  that  the  loan  has  hcvn  issued  in  c<Miformity 


436  PRINCIPLES  OF  MONEY  AND  BANKING 

with  the  exacting  requirements  of  the  bond  attorneys.  Certain 
strong  Canadian  houses  command  such  respect  in  their  country  that 
they  have  been  able  to  direct  the  legislation  of  the  Western  provinces 
to  the  end  that  the  Western  loans  may  be  more  acceptable  to  the 
investors  in  the  Eastern  provinces  and  in  England. 

The  advisory  function. — This  advisory  and  directive  function  is 
more  prominently  operative  in  bond  selling  than  in  bond  buying.  It 
has  its  source  in  the  statistical  departments  which  ever}^  house  of 
quality  must  maintain.  It  finds  its  chief  expression,  as  already 
stated,  in  tabloid  investment  lessons,  printed  in  the  advertising  col- 
umns of  newspapers  and  periodicals,  or  with  somewhat  greater  fulness 
in  pamphlets  and  monographs.  If  a  prospective  client  has  an  invest- 
ment policy  that  is  apparently  not  suited  to  his  particular  needs,  the 
home  office  may  tactfully  direct  his  attention  by  letter  or  through 
their  representative  in  his  territory  to  a  means  by  which  he  may 
better  his  position.  Some  bond  houses  maintain  a  daily  news  sheet 
for  the  benefit  of  their  salesmen  in  which  are  printed,  not  only  pertinent 
items  of  current  interest,  but  timely  discussions  of  different  problems. 

The  banking  function. — Illustrative  of  the  relation  between  house 
and  client,  there  has  arisen  the  demand  that  banking  departments- 
be  established  for  the  safe-keeping  of  funds  destined,  upon  enlarge- 
ment, to  go  into  investment,  and  also  to  accommodate  those  who 
wish  to  purchase  securities  before  they  have  sufficient  funds  to  pay 
in  full  for  them.  From  the  necessities  of  these  two  situations  it  is 
only  a  short  step  to  the  conduct  on  a  small  scale  of  a  bank  deposit 
subject  to  check.  But  properly  and  ordinarily  the  banking  depart- 
ment of  a  bond  house  is  conducted  as  a  matter  of  accommodation  to 
its  customers  and  not  primarily  to  do  a  general  banking  business. 
From  these  beginnings  it  sometimes  has  happened  that  a  full-fledged 
bank  has  been  evolved,  in  which  the  savings,  deposit,  and  trust 
functions  of  the  bank  have  balanced,  nominally  at  least,  the  sales 
function  of  the  bond  house,  but  an  exception  of  this  sort  would  only 
prove  the  rule.  Although  bond  houses  are  banks,  technically,  and  are 
entitled  to  their  common  designation,  "bankers,"  nevertheless,  on 
the  principle  that  security  selling  is  not  best  undertaken  by  obligor 
companies,  but  is  properly  left  to  the  bond  houses  which  make  it  a 
profession,  so  the  general  banking  business  is  best  left  to  banks  proper. 

The  bond  houses  as  fiscal  agents. — Because  of  purchasmg,  advisor}', 
and  banking  functions  bond  houses  are  called  upon  to  act  as  fiscal 
agents  for  corporations,  municipalities,  and  even  states.    The  long- 


INVESTMENT  BANKING  INSTITUTIONS  437 

standing  friendly  banking  relations  of  the  older  firms  with  the 
Western  cities  recall  the  fact  that  interest,  and  sometimes  the  prin- 
cipal, of  the  loans  of  these  cities  are  payable  at  the  offices  of  the  bond 
house.  Here  and  there  an  Eastern  institution  is  met  that  will  not 
buy  Western  municipals  which  are  not  payable  in  the  East.  This  is 
not  so  much  to  save  the  cost  of  conversion  into  New  York  funds,  for 
that  might  be  arranged  in  the  price,  as  because  of  the  inconvenience 
and  possible  loss  of  interest  in  shipping  the  bonds  West  for  collection. 
Some  of  the  older  bond  houses  act  as  depositories  for  Western  cities. 
In  general  the  conduct  of  the  bond  houses  as  fiscal  agents  has  merited 
the  trust  placed  in  them. 

It  is  natural  that  private  corporations  will  look  to  the  bond  houses 
as  their  financial  agents.  The  disposition  of  a  company's  funded  loans 
is  not  merely  a  matter  of  merchandising;  it  is  natural  that  the  rela- 
tionship begun  by  the  purchase  of  bonds  and  banking  representation 
on  the  directorate  shall  be  continued  indefinitely  in  the  thought  of 
future  financial  needs.  Just  as  the  great  railroad  systems  have  their 
long-established  financial  connections  with  certain  large  houses,  so 
the  public-service  and  other  private  corporations  form  alliances  with 
the  bond  houses.  The  continuance  of  such  relations  implies  conform- 
ity on  the  part  of  the  obligor  corporations  with  the  policy  of  the  bond 
houses.  This  also  tends  toward  a  betterment  of  financial  conditions 
throughout  the  country. 

The  selling  function. — American  banking  houses  are  not  elee- 
mosynary. Whatever  may  be  their  usefulness  in  the  community,  it 
is  the  result  of  that  enlightened  self-interest  which  used  to  be  expressed 
in  the  phrase  "Honesty  is  the  best  policy."  Their  reason  for  being 
is  to  make  money  by  selling  bonds,  and  the  competition  is  getting 
keener  every  day.  Many  of  the  ordinary  efi"ects  of  competition  are 
noticeable  in  the  bond  business.  There  is  standardization  of  wares 
and  j)olicies,  there  is  diminution  in  ratio  of  profits.  But  two  ordinary 
effects  of  competition  are  conspicuously  absent.  There  is  no  deteri- 
oration of  the  product  and  no  tendency  toward  consolidation  among 
the  vendors. 

There  are  some  who  profess  to  see  in  tlie  gradual  e\'olution  of  the 
bond  business  a  tendency  to  relinquish  direct  selling  from  house  to 
client  through  traveling  salesmen  in  favor  of  distribution  on  a  com- 
mission basis,  through  local  independent  bankers.  This  may  come. 
If  it  should,  it  would  be  one  of  tlie  evil  elTects  of  competition.  It 
would  relieve  the  "retail"  houses  of  a  large  part  of  that  sense  of 


438  PRINCIPLES  OF  MONEY  AND  BANKING 

personal  responsibility  which  they  now  feel.  They  would  be  in  a 
position  analogous  to  that  of  the  wholesale  houses  at  present.  Inves- 
tors would  have  to  accept  offerings  from  those  who  had  no  part  in 
the  investigation  which  preceded  the  original  purchase  of  the  issue, 
and  who,  presumably,  would  not  have  the  capital  or  organization  of 
distribution  to  "protect  the  market"  for  the  benefit  of  those  who 
might  wish  subsequently  to  sell  their  securities. 

The  protective  function. — There  is  a  radical  difference  in  the  atti- 
tude of  bond  houses  in  this  matter  of  repurchasing  securities  of  clients 
to  whom  they  have  sold  them.  Some  take  the  stand  that  a  sale  is  a 
sale,  and  the  responsibility  of  a  house  that  has  acted  in  good  faith 
ceases  upon  delivery  of  the  bond  and  the  receipt  of  payment.  This 
position  is  logical  and  just,  but  again  competition  steps  in  to  benefit 
the  customer.  Other  houses  say:  "We  shall  put  out  our  issues  as 
nearly  as  possible  on  a  plane  of  marketability  with  active  listed 
securities.  We  make  no  promises,  but,  except  in  times  of  panic,  when 
it  may  be  impossible  to  raise  money  to  satisfy  everj^body,  we  hope 
and  expect  to  be  so  situated  as  to  buy  back  at  the  fair  market  price 
the  securities  we  have  sold." 

But  the  protective  function  of  the  bond  house  is  most  important 
in  respect  to  the  moral  responsibility  of  "seeing  the  clients  through" 
default,  reorganization,  and  rehabilitation  in  the  extremely  rare  cases 
in  which  trouble  arises.  In  some  instances  losses  amounting  to  hun- 
dreds of  thousands  of  dollars  have  been  made  good;  in  many  instances 
the  firms  have  volunteered  to  pay  interest  which  has  been  suspended; 
in  every  case  a  reputable  bond  house  will  feel  called  upon  to  take  the 
active  leadership,  at  its  own  expense,  in  upholding  the  mortgage  rights 
or  other  legal  claims  of  the  bond  holders. 

With  the  enUghtened  aid  of  bond  houses  the  creditor  class  will 
do  well  to  take  as  much  pains  in  the  investment  of  its  wealth  as  in 
the  acquisition  of  it.  Buyers  of  corporation  bonds  should  exercise 
as  much  care  in  the  selection  of  a  financial  adviser  as  in  the  choice 
of  a  security.  They  should  seek  a  bond  house  with  a  strong  person- 
ality, strong  convictions  on  investment  matters,  and  the  capital  and 
equipment  to  back  them  up. 


INVESTMENT  BANKING  INSTITUTIONS  439 

215.    THE  BASIS  OF  BOND  VALUES' 
By  THEO.  H.  price 

In  this  diagram  the  basic  factors  and  the  technical  and  mathe- 
matical elements  are  grouped  on  the  longer  sides  of  the  triangle.  To 
the  psychological  division  of  the  problem  less  space  is  given,  as  it 
deals  with  influences  that  will  be  impermanent  if  the  essentials  of 
security  exist.  Conversely,  it  is  quite  possible  for  those  who  under- 
stand the  psychology  of  the  investment  market  to  take  advantage  of 
the  public  at  an  adventitious  moment  and  induce  them  to  buy  bonds 
that  lack  the  intrinsic  qualities  of  safety. 


■  <>> 


Buttrtssed  by 

Responsibility  of  Borrowers  Legality  of  Issue 

Nature  of  Lien,  if  any  Political  Stability 

\'alue  of  Security  Pledged  Reality  and  Morality  of  Social  Service 

Amount  and  Permanency  of  Income  Honesty  and  Economy  of  Management 

Fair  Play  to  Public,  Employers,  and  Competitors 


For  this  reason  the  reputation  of  the  bankers  who  are  sponsors 
for  the  securities  is  the  most  important  of  the  psychic  or  intangible 
factors,  and  as  such  will  be  considered  later  on. 

The  technical  and  mathematical  determinants  of  bond  values 
can  be  only  partially  enumerated  and  briefly  discussed  here.  They 
embrace  nearly  the  whole  field  of  human  experience  and  science. 

Volumes  which  carr>'  one  well  into  higher  mathematics  have  been 
written  about  sinking  funds  and  amortization.  The  duties  of  trustees 
and  the  words  in  which  the  promise  to  pay  is  phrased  have  been  made 

'  Adapted  from  an  article  on  "Commerce  and  Finance,"  Oullook,  CVI  (1914)1 
327-28. 


440  PRINCIPLES  OF  MONEY  AND  BANKING 

the  subject  of  much  Utigation  and  many  law  books.  There  are  many 
other  details  of  the  problem  that  might  be  mentioned  to  make  plain 
the  need  of  specialists  in  coping  with  it. 

But  these  specialists  must  include  not  only  lawyers  and  mathe- 
maticians; there  must  be  men  of  broad  sympathy,  wide  experience 
in  business,  acute  power  of  analysis,  and  well-balanced  optimism  to 
pass  upon  the  rights  of  enterprise  to  credit  through  the  medium  of 
bonds.  The  great  bankers  who  control  the  water  gates  through 
which  the  public's  money  flows  to  irrigate  the  fields  of  industry  have 
their  obligations  to  the  borrower  as  well  as  to  the  lender,  to  the  worker 
as  well  as  to  the  capitalist. 

If  the  test  of  deservedness  be  made  too  acid,  and  the  pessimism 
born  of  experience  is  not  tempered  by  the  optimism  of  hope  and 
imagination,  the  banker  will  fall  short  of  the  full  duty  which  his 
opportunities  impose.  It  is  the  gift  of  imagination  and  the  quahty 
of  constructive  optimism  that  differentiate  the  banker  from  the  money 
lender,  and  the  greatness  and  influence  of  the  late  Pierpont  Morgan  . 
lay  chiefly  in  his  ability  to  visualize  the  picture  of  the  future  upon 
the  canvas  of  the  present,  and  in  his  helpful  belief  in  his  fellow-men 
and  his  country. 

The  instrument  of  credit  that  is  called  a  bond  provides  a  means 
whereby  the  immobile  or  undeveloped  assets  of  a  deserving  enter- 
prise may  be  pledged  to  secure  the  money  which  should  be  used  to 
extend  still  further  the  field  of  beneficent  activity.  So  regarded,  the 
bond  may  be  properly  utilized  by  any  political  entity  or  business 
organization  that  can  demonstrate  that  it  is  possessed  of  the  requisite 
and  the  honorable  good  faith  which  is  the  first  essential  of  credit. 

Almost  ever}'thing  that  human  industry  has  produced  or  for 
which  society  has  need  has  been  or  may  be  made  the  basis  of  a  bond 
issue. 

It  is  entirely  clear  that  skill  and  trained  experience  of  the  highest 
character  are  necessary  to  discriminate  as  between  good  and  bad 
bonds.  It  is  equally  clear  that  when  skill  and  experience  have  elimi- 
nated the  bad  bonds  and  accepted  the  good  bonds  money  must  be 
provided  en  bloc  to  buy  them.  Next,  the  machiner}'-  of  introduction, 
advertisement,  salesmanship,  and  distribution  must  be  put  in  motion 
to  pass  the  bonds  .along  to  the  ultimate  investor,  so  that  a  normal 
level  may  be  maintained  in  the  distributing  reservoirs  of  capital. 


XI 

THE  INTERRELATIONS  OF  FINANCIAL 
OPER.\TIONS 

Introduction 

The  purpose  of  this  concluding, chapter  is,  first,  to  indicate  the 
interlacing  and  ramifications  of  the  various  forms  of  financial  opera- 
tions in  the  United  States  and  to  point  out  the  consequences  of  the 
prevalent  confusion  that  has  existed  with  reference  to  the  true  func- 
tions of  the  different  tv'pes  of  banking  institutions;  secondly,  to 
show  how  the  Federal  Reserve  System  is  designed  to  correct  the 
weaknesses  that  have  developed  in  our  banking  system  in  connec- 
tion with  the  confusion  of  investment  and  commercial  principles; 
and,  thirdly,  to  outline  the  great  problem  of  financial  concentration 
and  control,  popularly  called  the  "Money  Trust." 

The  material  here  presented  is  directly  related  at  many  points 
to  the  principles  developed  in  preceding  chapters.  The  very  first 
selection,  for  instance,  has  already  been  foreshadowed  in  chapter  iv, 
in  the  reading  on  "Collateral  Loans  and  Stock  Exchange  Specula- 
tion"; but  attention  is  here  directed  to  the  manifold  relations  that 
exist  between  commercial  banks  and  the  securities'  markets  and  to  the 
problems  that  arise  in  connection  therewith.  Similarly,  the  use  of 
the  funds  of  "commercial"  banks  for  investment  purjwses  was  defi- 
nitely pointed  out  in  our  analysis  of  the  loans  of  "commercial" 
banks.  Here,  however,  we  are  showing  the  extent  of  and  the  reasons 
for  this  practice,  together  with  its  effects,  upon  the  financial  system 
in  general.  Again,  in  our  study  of  the  Federal  Reserve  Act  numerous 
provisions  were  noted  which  touched  the  field  of  investment;  but 
here  we  are  discussing  the  provisions  that  have  most  conspicuously 
been  designed  to  differentiate  commercial  from  investment  opera- 
tions. In  a  word,  this  chapter  is  l)uilt  upon  the  general  analysis  of 
credit  and  banking  that  has  been  made  in  Part  II  of  this  volume  and 
is  designed  to  suggest  the  constructive  reforms  that  are  being  dis- 
cussed at  the  present  time. 

The  readings  under  "C.  Financial  Concentration  and  Control" 
reveal  the  tremendous  role  that  the  investment  banker,  or  financier, 
plays  in  the  modern  lousiness  world  and  the  problems  that  have 

441 


442  PRINCIPLES  OF  MONEY  AND  BANKING 

arisen  in  connection  with  the  use  of  this  enormous  power.  The 
development  of  large-scale  business  and  the  uniting  of  independent 
concerns  into  gigantic  combinations,  which  have  characterized  our 
transportation  and  manufacturing  industries  during  the  past  twenty 
years,  have  been  paralleled  in  the  banking  world.  Indeed,  the  two 
movements  have  developed  hand  in  hand,  and  each  has  been  neces- 
sary to  the  other:  large-scale  industry  required  the  development  of 
financial  institutions  commensurate  with  their  needs,  and,  conversely, 
the  growth  of  large  banking  institutions  made  it  possible  to  accumu- 
late the  capital  required  by  modern  industries. 

The  public  has  been  greatly  agitated  in  recent  years  over  what  is 
termed  the  greatest  of  all  monopolies,  the  "Money  Trust."  A 
government  committee  has  made  an  investigation  into  the  extent 
of  financial  concentration  and  control  in  this  country,  and  a  very 
able  defense  of  current  practices  has  been  presented  by  the  finan- 
ciers of  Wall  Street.  While  results  of  the  investigation  clearly  do 
not  substantiate  the  charges  that  have  been  made,  most  students 
are  agreed  that  the  system  that  has  developed  gives  to  the  financial 
interests  an  enormous  power  which,  if  wielded  with  sinister  intent,  or 
merely  with  unwisdom,  would  be  fraught  with  tremendous  conse- 
quences throughout  the  entire  industrial  system.  The  concluding 
selection  of  the  volume  points  out  the  economic  functions  that  are 
served  by  the  modern  financier  and  indicates  the  abuses  that  arise 
in  connection  with  the  exercise  of  these  legitimate  functions.  The 
problem  here  would  seem  to  be  the  same  as  with  trusts  or  large-scale 
industries  in  general — to  conserve  the  undoubtedly  good  features 
while  eliminating  the  abuses  that  develop. 

A.    Investment  Operations  of  Commercial  Banks 

216.    THE  RELATION  OF  THE  BANKS  TO  STOCK 
EXCHANGE  SECURITIES' 

By  JACOB  H.  HOLLANDER 

In  the  United  States  the  money  market,  in  the  form  of  bank  loans, 
may  be  regarded  as  impinging  upon  the  stock  exchange  at  five  distinct 
points : 

I.  Stock-exchange  securities  are  used  as  collateral  to  secure  mer- 
cantile discounts  and  personal  loans  in  the  insufficiency  of  commercial 
or  personal  credit. 

'Adapted  from  Bank  Loans  and  Stock  Exchange  Speculation,   pp.   4-26. 
(National  ^Monetary  Commission,  191 1.) 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        443 

2.  In  the  interval  between  original  sale  and  ultimate  absoqHion  by 
investors  newly  issued  corjDorate  securities  are  used  by  underwriting 
syndicates  and  syndicate  participants  to  secure  bank  advances. 

3.  Banking  institutions  invest  in  stock-exchange  securities 
such  part  of  their  resources  as  are  not  employed  in  loans  and  dis- 
counts in  consideration  of  interest  return  and  in  anticipation,  semi- 
speculatively,  of  appreciation  in  market  value. 

4.  Bond  houses  and  stockbrokers  engaged  in  the  sale  of  invest- 
ment securities  obtain  bank  loans  as  working  capital  upon  unsold 
holdings. 

5.  Speculative  purchases  of  stock-exchange  securities  are  financed 
partly  by  time  loans,  but  in  the  main  by  demand  loans  obtained 
from  banking  institutions  and  secured  by  such  securities  as  collateral. 

Let  us  consider  these  in  turn. 

1.  The  stock-exchange  securities  in  this  case  represent  in  the 
main:  (a)  individual  loans  by  those  who  are  without  commercial  or 
personal  credit  or  who  are  unwilling  to  use  it  even  though  they  pos- 
sess it;  (b)  supplementary  business  loans  by  those  who  have  exhausted 
the  maximum  commercial  credit  which  their  customary  banks  have 
found  it  possible  to  accord,  and  (c)  loans  made  by  corporations  who 
have  been  unwilling  or  unable  to  market  their  own  obligations  and 
are  driven  to  use  these  in  j^art  to  secure  urgently  needed  borrowings. 

No  question  has  ever  been  raised  as  to  the  utility  of  this  feature 
of  our  banking  system.  It  is  obviously  advantageous  that  those 
engaged  in  business  activity,  or  individual  effort,  who  happen  to  be 
owners  of  stocks  or  bonds,  should  be  able  upon  proper  occasion  to 
secure  temporary  advances  of  credit  thereon  without  the  waste  and 
friction  of  forced  sale.  The  banks  here  simply  serve  as  jxawnshops 
for  securities.  Capital  is  made  more  mobile  without  sacrifice  of  pro- 
ductivity, and  both  the  business  community  and  the  investing  public 
are  benefited. 

2.  The  ordinary  .procedure  in  modern  corporate  financiering  is 
for  the  borrowing  corjDoration  to  enter  into  an  engagement  with  a 
banking  institution,  pul)lic  or  private,  for  the  guaranteed  flotation, 
commonly  at  a  stipulated  price,  of  the  proposed  issue.  In  the  intcr\-al 
between  the  preliminary  engagement  and  the  consummated  arrange- 
ment the  purchasing  institution  will  have  secured  from  other  insti- 
tutions or  individuals  subscriptions  to  participate  in  the  purchase 
covering  all  but  such  part  as  it  may  itself  desire  to  retain.  Such 
subscriptions  will  have  been  made  to  some  extent  by  savings  banks, 


444  PRINCIPLES  OF  MONEY  AND  BANKING 

insurance  companies,  and  trustees  for  direct  investment  puryjoses, 
but  in  the  main  by  junior  banking  and  brokerage  houses  to  meet 
customers'  demands.  If  times  be  favorable  and  the  securities  popular 
the  issue  is  likely  to  be  absorbed  by  the  public  in  response  to  the 
advertised  offering  made  by  the  contracting  house  or  the  syndicate 
manager,  if  for  no  other  reason  than  to  accredit  the  issue,  and  rein- 
forced by  the  elaborate  selling  organization  that  the  ordinary  bond 
house  has  developed.  In  such  event,  prompt  absorption  of  the  issue 
by  actual  investors,  there  will  be  no  occasion  for  banking  intervention. 
The  funds  requisite  will  be  withdrawn  from  individual  savings  ac- 
counts and  bank  deposits  and  the  purchased  securities  will  find  their 
way  into  strong  boxes. 

If,  however,  general  economic  conditions  are  unfavorable,  either 
the  trade  purchasers  or  the  underwriting  participants,  or  both,  will 
find  themselves  with  unsold  blocks  of  securities  on  hand.  These 
may  be  taken  up  at  once  by  those  ultimately  responsible,  or,  more 
likely,  the  unsold  quota  will  remain  under  the  control  of  the  manager 
until  with  the  expiration  of  an  agreed  or  reasonable  time — often 
extended  and  re-extended — the  distribution  of  the  unsold  remainder 
among  the  subscribers  is  consummated. 

Under  such  circumstances  prompt  recourse  will  be  had  to  banking 
institutions  for  advances  of  credit  upon  the  unsold  or  undistributed 
securities.  The  stage  at  which  recourse  is  had  to  the  banks  and  the 
extent  to  which  credit  advances  are  sought  varies  with  the  nature  of 
the  contract,  the  resources  of  the  purchasing  house,  and  the  progress 
of  the  distribution.  If  the  issuing  corporation  requires  early  pay- 
ment, the  obligations  in  temporary  form,  or  even  the  purchase  option, 
may  be  used  by  the  purchaser  as  collateral  for  a  bank  loan.  If  the 
loan  be  undersubscribed,  the  part  left  over  will  be  similarly  h}'pothe- 
cated;  or  if  the  subscription  be  full  but  the  absorption  incomplete, 
the  undigested  parts,  either  in  the  custody  of  the  syndicate  manager 
or  distributed  among  the  separate  participants,  will  be  used  as  bank- 
ing collateral.  Ordinarily  such  advances  are  made  by  the  banks  at 
the  rates  prevailing  for  call  money,  or  upon  even  more  favorable 
terms  in  the  case  of  underwriting  syndicates  having  strong  banking 
connection. 

If  corporate  enterprise  is  to  secure  with  economy  the  additional 
capital  necessary  from  time  to  time  for  growth  and  expansion,  if 
accumulated  savings  are  to  find  productive  employment  with  prompt- 
ness and  certainty,  some  such  relationship  between  corporate  borrow- 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        445 

ing  and  the  existing  banking  organization  of  the  United  States  meets 
this  requirement  of  business  enterprise  with  moderate  success.  Such 
evils  as  from  time  to  time  disclose  themselves  seem  inevitably  incident 
to  the  alternating  fever  and  quiescence  of  modern  economic  organi- 
zation. In  flush  times,  when  promoters  abound  and  banks  become 
less  prudent,  the  availability  of  corporate  securities  as  bank  collateral 
undoubtedly  serves  as  an  artificial  stimulus  to  evoke  projects  that 
are  unnecessary  or  unwise.  The  way  is  opened  for  a  perilous  process 
of  pyramiding  that  leads  swiftly  to  reckless  involvement. 

A  further  criticism  is  that  such  bank  loans  tend  to  encroach  upon 
the  accommodations  that  can  be  afforded  ordinary  business  activity. 
The  times  in  which  the  banks  are  most  heavily  involved  in  syndicate 
underwritings  are  periods  of  business  activity  rather  than  quiet.  It 
is  then  that  corporate  projects  take  amplest  shape  and  flotation  fol- 
lows quickly  upon  flotation.  During  the  upswing  the  absorption  is 
so  rapid,  the  profits  so  alluring,  and  the  pubHc  service  so  plausible 
that  banking  conserv^atism  is  put  to  the  test  merely  in  distinguishing 
accommodation  from  excess  and  enterprise  from  venture.  A  bank's 
mercantile  customers  ordinarily  have  the  first  claim  upon  its  facilities. 
But  in  periods  of  business  calm  not  all  of  its  resources  will  be  so  em- 
ployed and — in  lieu  of  the  even  less  profitable  avenue  of  emplojinent 
in  stock-exchange  loans — advances  upon  syndicate  collateral  are  very 
acceptable.  Such  loans  are  nominally  payable  on  demand,  but  in 
reality  they  are  much  less  liquid  than  the  ordinary  call  loan.  Such 
practice  gives  rise  to  serious  problems  and  is  unfortunate,  but  it 
appears  to  be  a  necessary  result  of  the  daring  nature  of  modern  busi- 
ness. Publicity  and  improved  means  of  control  are  required  to  safe- 
guard the  situation. 

3.  The  motives  leading  to  investments  by  banks  in  stock-exchange 
securities  are  in  some  cases  specific  and  obvious.  The  financial  insti- 
tutions of  Baltimore,  for  instance,  find  it  profitable  to  invest  largely 
in  Baltimore  City  bonds,  because  such  securities  are  not  only  exempt 
from  state  and  local  taxation  but,  by  a  curious  series  of  implied  agree- 
ments, administrative  rulings,  and  legal  enactments,  carrs-  with  ihcm 
a  corresponding  tax-deducting  power,  to  the  extent  of  largely  relieving 
some  of  the  institutions  from  capital  taxation.  iVIore  common  is  a 
bank's  investment  in  a  particular  State's  or  municipality's  bonds  in 
the  hope,  or  even  as  the  condition,  of  becoming  its  public  depository 
or  of  securing  some  public  or  semi-public  account.  This  may  even 
extend  to  a  private  corporation,  whose  profitable  banking  account 


446  PRINCIPLES  OF  MONEY  AND  BANKING 

can  be  more  certainly  retained  by  participation  in  its  financing. 
Finally,  some  part  of  a  bank's  securities  represent  the  foreclosure  of 
hypothecated  securities,  acquired  by  the  institution  for  its  own  ulti- 
mate protection. 

But  these  instances  explain  only  a  fractional  i)art  of  the  aggregate 
holdings  and  do  not  touch  the  essential  consideration,  which  is,  that 
a  bank  buys  securities  because  it  can  find  no  other  profitable  invest- 
ment during  recurring  periods  when  business  is  quiescent  for  such  of 
its  surplus  funds  as  it  would  otherwise  employ  in  its  regular  channels. 

When  reserves  become  congested  and  the  local  demand  for  money 
is  exhausted,  neither  the  call  money  market  in  New  York  nor  the 
masked  rediscount  of  country  bank  paper  nor  the  availability  through 
brokerage  houses  of  the  promissory  paper  of  a  limited  number  of 
widely  known  mercantile  and  industrial  establishments  will  absorb 
the  excess,  and  recourse  is  had  to  the  bond  market. 

From  whatever  point  of  view  regarded,  this  apparent  necessity 
under  which  American  banks  now  labor  of  tying  up  large  parts  of 
their  loanable  funds  in  stock-exchange  securities  is  unfortunate.'  It 
offers  an  unhealthy  stimulus  to  corporate  financiering  by  supplying  a 
temporary  and  fictitious  market  for  investment  securities.  It  invites 
speculative  gains  and  losses  by  the  fluctuation  in  market  price  in  the 
interval  between  purchase  and  liquidation.  It  curtails  mercantile 
accommodation  by  the  bank's  reluctance  to  liquidate  such  securities 
in  a  declining  market,  and  it  injects  an  additional  element  of  risk  into 
banking  stability  in  the  temptation  to  invest  in  less  seasoned  and  more 
productive  bonds. 

4.  The  modern  stockbroker  is  engaged  in  two  kinds  of  activity — 
the  purchase  and  sale  of  investment  securities  and  the  conduct  of 
speculative  operations  for  principals  or  in  personal  behalf.  Ordinarily 
both  classes  of  business  are  conducted  by  the  same  house,  but  there 
are  many  bond  houses  who  do  not  invite  speculative  accounts  and, 
on  the  other  hand,  many  commission  houses  figure  inappreciably  in 
the  investment  market. 

In  so  far  as  the  activities  of  the  stockbroker  relate  to  the  purchase 
and  outright  sale  of  investment  securities,  he  is  a  dealer  in  merchan- 
dise. Accordingly,  his  vaults,  like  the  shelves  of  the  merchant  or  the 
warehouse  of  the  manufacturer,  are  at  all  times  stocked  with  invest- 
ment wares  awaiting  the  dem.ands  of  his  investing  clientele. 

'  This  was  written,  of  course,  before  the  passage  of  the  Federal  Reserve  Act. — 
Editor. 


THE   IXTERRELATIOXS  OF  FIXANXIAL  OPERATION'S         447 

In  addition  to  undistributed  syndicate  holdings,  the  ordinan* 
bond  house  is  the  owner,  by  actual  i)urchase  and  payment,  of  blocks 
of  securities  acquired  for  purjjoses  of  sale  at  profit,  and  the  actual 
distribution  of  which  is  pressed  with  all  the  energy  and  skill  of  com- 
mercial vending. 

Advances  of  credit  upon  the  unsold  part  of  this  stock  in  trade  are 
sought  from  the  banks  in  supj)lement  of  the  broker's  own  working 
capital.  The  relation  of  the  stockbroker  to  the  banks  is,  in  this 
particular,  like  that  of  any  other  lousiness  man.  Restriction  of  credit 
on  such  security  would  find  an  exact  parallel  in  the  case  of  a  merchant 
denied  credit  upon  unsold  wares  or  a  manufacturer  upon  undistributed 
produce. 

This  service  is  rendered  with  reasonable  adequacy  by  our  present 
banking  system.  Bond  houses  suffer  something  in  common  with  all 
mercantile  enterprise  from  the  inelasticity  of  bank  credits  in  periods 
of  economic  expansion,  Ijut  the  treatment  accorded  is  often  preferential 
and  the  discomfort  on  the  whole  less  acute. 

5.  Speculative  purchases  of  stock-exchange  securities  have  resulted 
from  the  accumulation  of  funds  in  central  reserve  cities,  notably  New 
York,  through  the  practice  under  the  National  Banking  laws  of 
redepositing  reserves  and  of  habitually  allowing  2  per  cent  interest 
upon  country  bank  deposits  subject  to  call. 

It  is  not  possible  for  the  New  York  banks  to  emi)loy  all  such 
deposits  in  mercantile  loans  and  discounts,  even  were  it  sound  bank- 
ing to  lend  call  money  on  time  loans.  The  only  method  of  profitable 
use  is  demand  loans,  and  the  only  large  market  is  offered  by  specu- 
lative operators  on  the  stock  and  produce  exchanges.' 

We  have  here  all  the  conditions  favorable  to  artificial  stimulation 
of  stock-exchange  speculation.  At  periods  of  seasonal  dulness,  and, 
even  more,  at  times  of  business  reaction,  the  irresistible  lure  of  pay- 
ment for  idle  money  attracts  the  surplus  funds  of  the  interior  banks 
to  New  York,  there  to  be  j)ressed  upon  the  call  money  market  for 
what  it  will  bring,  and,  finding  regular  employment  only  in  stock- 
exchange  operations,  to  encourage  speculative  commitments  at  the 
very  time  when  cjuiescence  is  in  order.  As  there  is  unwholesome 
stimulation,  so  there  is  sudden  and  wasteful  liciuidation.  When 
reviving  business  leads  the  interior  banks  to  reduce  their  New  York 
balances,  the  depositary  banks  meet  the  strain  by  calling  loans,  with 

'  For  the  method  by  wliich  such  loans  are  made  see  selection  No.  39. 


448  PRINCIPLES  OF  MONEY  AND  BANKING 

the  result  that  the  speculative  movement  for  the  rise  is  reversed  and 
a  repressive  influence  cast  upon  general  business. 

It  is  certain  that  a  measure  of  stock-exchange  speculation  would 
persist  even  if  the  resources  of  the  New  York  banks  were  alone 
available  for  financing  it,  but  the  extent  of  such  accommodation, 
even  when  supplemented  by  the  demand  loans  made  available  by 
individual  capitalists,  would  be  limited  and  the  cost  of  securing  it 
would  be  greater.  Individual  speculation  would  be  less  in  amount 
and  narrower  in  distribution.  Most  of  all,  the  periods  of  speculation, 
in  so  far  as  determined  by  the  cheapness  of  money,  would  vary  logi- 
cally with  the  movement  of  general  business,  instead  of,  as  at  present, 
running  in  vicious  opposition  thereto. 

217.    INVESTMENT  LOANS  OF  COMMERCIAL  BANKS' 
By  C.  W.  BARRON 

The  best  estimates  that  we  can  get  privately  of  bankers  is  that 
the  real  commercial  loans  in  the  national  banks  do  not  exceed  three 
billions,  or  one-half  the  loan  account. 

While  the  paper  appears  in  the  form  of  commercial  loans,  a  con- 
siderable part  is  for  fixed  forms  of  property  and  for  as  distinctively 
industrial  expansion  as  are  stocks  and  bonds.  And  why  should  it 
not  be? 

A  merchant  with  sufiicient  capital  to  do  his  own  banking  may 
have  several  hundred  thousand  dollars  cash  in  the  bank,  owe  no 
money,  and  have  a  million  dollars  in  accounts  on  his  books,  or  notes 
in  his  box  representing  commercial  loans  due  him.  His  business 
expands  and  he  desires  to  put  a  half-million  or  a  million  into  a  new 
factory.  Will  he  issue  stocks  or  bonds  or  make  any  permanent  bor- 
rowing for  this  ?  Certainly  not.  He  notifies  the  bank  he  will  want  a 
half -million  or  more  money  covering  certain  months.  The  bank's 
response  is,  of  course,  that  he  can  have  all  the  riioney  he  wants  and 
give  any  kind  of  a  note  on  time  or  demand.  His  cash  balance  is 
worthy  of  his  credit.  His  borrowing  is,  therefore,  not  necessary 
commercial  borrowing,  but  commercial  borrowing  is  forced  by  his 
construction. 

The  state  banks  and  trust  companies  csLvry  far  less  commercial 
paper  than  the  national  banks.  On  page  5 1  of  the  Report  of  the  Comp- 
troller of  the  Currency  for  19 13  will  be  found  a  record  of  not  only  the 

'Adapted  from  The  Federal  Reserve  Act,  pp.  68-73.  (Boston  News  Publish- 
ing Co.,  1914-) 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        449 

7,473  national  banks  but  of  18,5  20  state  banks,  trust  companies,  private 
bankers,  and  savings  banks  in  respect  to  the  character  of  their  loans. 
Out  of  a  total  of  $14,600,000,000  loans  based  largely  on  demand 
deposits,  $3,500,000,000  are  secured  by  real  estate  and  mortgages, 
and  $4,500,000,000  by  other  collateral,  and  $8,000,000,000  on  fixed 
forms  of  property.  The  "other  loans"  are  $6,500,000,000,  including, 
of  course,  the  so-called  $3,000,000,000  commercial  loans  in  the  national 
banks  as  noted  above.  Of  these  the  real  commercial  loans  are  some- 
where between  three  billions  and  six  billions.  Private  estimates  of 
bankers  with  far  better  knowledge  of  the  real  situation  than  is  pos- 
sessed by  the  government  officials  vary  all  the  way  between  these 
two  figures. 

We  have  for  some  time  estimated  that  the  real  commercial  loans 
for  the  transactions  of  commerce  in  this  country  do  not  exceed  five 
billions  and  that  between  nine  and  ten  millions  of  bank  loans  are  on 
fixed  forms  of  property. 

This  represents  property  in  process  of  digestion  by  investors. 
When  the  amount  is  large,  or  the  investment  fund  is  light,  it  is  termed 
overinvestment  or  indigestion  of  securities.  Nearly  two-thirds  of 
our  bank  loans  represent  constructive  industry,  stocks,  bonds,  and 
fixed  forms  of  property  in  process  of  digestion,  and  only  one-third 
represent  commercial  transactions.' 

218.    THE  MISUSE  OF  COMMERCIAL  BANK  FUNDS^ 
By  H.  M.   GEIGER 

We  have  all  been  too  busy  to  keep  books  accurately  on  a  big 
scale.  Consequently  no  one  can  tell  us  exactly  what  proportion  of 
our  assets  represents  permanent  investment;  what  percentage  we  use 
for  development  and  construction,  or  what  sum  is  absolutely  neces- 
sary to  carry  on  the  rapid-fire  exchanges  of  industry  and  commerce. 

Roughly,  we  know  that  certain  sums  are  deposited  in  savings 
banks,  trust  companies,  and  in  the  savings  departments  or  time  cer- 
tificates of  deposit  of  national  banks.  With  some  degree  of  approxi- 
mation we  can  guess  that  these  funds  are  available  for  more  or  less 
permanent  investment  in  stocks,  bonds,  investment  notes,  or  other 
securities  which  will  not  be  paid  in  full  until  a  long  period  of  time  has 

'See  selections  Nos.  32  and  37. — Editor. 

'Adapted  from  a  pamphlet  entitled  Financial  Readjustments  (1915),  pp.  2-5. 
(Copyright  by  the  author.) 


450  PRINCIPLES  OF  MONEY  AND  BANKING 

elapsed.  But  we  have  no  exact  account  of  our  "commercial"  and 
our  "investment"  funds  in  general. 

Even  without  this  information,  however,  the  daily  practice  of 
business  constitutes  sufficient  proof  in  itself  that  the  combined  total 
of  all  "investment  funds"  as  represented  by  the  resources  of  savings, 
trust,  and  insurance  companies,  private  investors  and  investment 
banks,  are  not  sufficient  to  meet  the  demands  created  by  our  indus- 
trial expansion.  The  extraordinary  expansion  of  civilization  in  Amer- 
ica during  the  past  century  has  made  use  of  every  penny  of  available 
capital,  has  borrowed  five  or  six  billions  from  Europe,  and  has  still 
been  driven  to  make  merciless  inroads  on  what  we  should  have  been 
taught  to  respect  as  our  "commercial"  fund.  This  is  not  a  cause  for 
sorrow  or  of  worry.  The  money  has  been  well  used.  Our  fathers 
found  a  wilderness.  Since  then  the  wilderness  has  not  only  been 
reduced  to  a  fairly  well  cultivated  area  of  farms,  cities,  mines,  and 
factories,  but  the  nation  as  a  whole  has  kept  pace  with  the  unprece- 
dented commercial  and  industrial  progress  of  the  older  civilizations 
of  Europe,  which  had  all  the  fundamentals  of  their  culture  built  and 
paid  for  when  we  were  surveying  roads  through  forests  and  following 
Indian  trails  across  the  Western  plains. 

Our  one  error  was  in  mistaking  the  proper  functions  of  our  com- 
mercial banks. 

Stated  bluntly,  a  majority  of  the  resources  of  national  banks  are 
tied  up  in  loans  of  a  more  or  less  permanent  character.  Truly,  the 
notes  are  usually  made  for  periods  of  four  or  six  months,  but  it  is  the 
understanding  between  the  banker  and  the  borrower  in  many  instances 
that  these  notes  shall  be  renewed  indefinitely,  provided  certain  peri- 
odical reductions  are  made  and  the  interest  discounted  in  advance. 
Moreover,  the  country  is  filled  with  manufacturers  who  expect  bankers 
not  only  to  finance  their  temporary  needs,  but  who  have  also  built 
their  plants  on  capital  borrowed  and  reborrowed,  again  and  again, 
from  banks. 

This  practice  has  been  one  of  the  most  prolific  causes  of  industrial 
failures  in  the  United  States.  Dun's  and  Bradstreet's  reports  for 
many  years  show  that  go  per  cent  of  all  failures  are  due  to  lack  of 
capital.  In  very  many  instances  excellent  enterprises  were  under- 
taken at  periods  when  it  was  easy  to  secure  loans  from  banks,  only  to 
fail  in  the  midst  of  their  development  because  some  contingency  forced 
the  bank  to  withdraw  its  support  and  demand  the  payment  of  its 
loans. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        451 

So,  while  the  practice  of  loaning  ''demand"  deposits  to  borrowers 
who  are  not  prepared  to  pay  except  at  the  end  of  a  long  period  has 
caused  many  sleepless  nights  for  bankers,  it  has  also  produced  innu- 
merable tragic  failures  for  enterprising  men  who  have  seen  their 
plans  shrivel  up  and  disappear  under  the  sheriff's  hammer  to  satisfy 
a  note  that  had  been  "called." 


219.     THE  ADVANTAGE  OF  THE   DRAFT  OVER  THE  PROISHS- 
SORY  NOTE  IN  COMMERCIAL  BANKING- 

By  EARLE  p.  CARMAN 

The  usual  method  of  obtaining  credit  for  commercial  purposes  is 
by  borrowing  on  the  promissory  note,  and  the  usual  method  of  extend- 
ing commercial  credit  is  on  open  book  account.  Let  us  examine  both 
methods. 

The  promissory  note  is  not  a  distinctive  commercial  instrument. 
It  bears  nothing  on  its  face  to  indicate  the  purpose  for  which  the 
funds  it  represents  have  been  used  or  are  to  be  used.  Ver^'  often  it 
is  simply  an  accommodation  credit  instrument  and  has  nothing 
behind  it  except  the  general  resources  of  the  borrower.  Quite  fre- 
quently it  is  an  investment  credit  instrument,  representing  non- 
convertible  property.  A  prominent  banker  of  western  Pennsylvania 
recently  issued  promissory  notes  for  the  puq^ose  of  obtaining  invest- 
ment funds,  to  the  extent  of  several  million  dollars,  and  with  the 
usual  disastrous  result. 

When  used  for  commercial  puqwses,  the  promissory  note  usually 
represents  a  combination  of  commercial  credit  and  investment  credit. 
In  other  words,  the  proceeds  of  the  note  are  usually  used  jxirtly  to 
pay  for  commodities  of  trade  which  will  be  resold  and  partly  to  pay 
for  permanent  fixtures  or  improvements  which  will  never  be  resold 
while  the  business  of  the  borrower  continues. 

But  the  aggregate  amount  of  commercial  credit  tied  up  and  made 
inconvertible  by  the  use  of  promissory  notes  representing  mixed 
commercial  and  investment  credits  is  probably  small  in  comparison 
to  the  aggregate  amount  of  commercial  credit  represented  by  book 
accounts,  which  are  both  immobile  and  nonconvcrtible.  This  vicious 
system  of  extending  comnicrcial  credit  is  (|uite  unknown  in  any  of 

'Adapted  from  "The  Change  of  Credit  Methods  Made  Necessary  by  the 
Federal  Reserve  Act,"  Commercial  and  Financial  Chronicle,  April  24,  1915,  pp. 
1396-98. 


452  TRINCIPLES  OF  MONEY  AND  BANKING 

the  other  leading  countries.  It  has  everything  against  it  and  nothing 
in  its  favor,  either  as  regards  the  seller,  the  buyer,  or  the  general 
credit  situation. 

As  regards  the  seller,  it  compels  him  to  limit  his  sales  on  credit 
by  the  capital  employed  in  his  business,  and  his  profits  are  restricted 
accordingly.  If  he  extended  credit  only  in  such  form  that  it  could 
be  converted  into  cash,  he  could  sell  all  the  goods  that  the  trade  would 
consume,  and  his  profits  would  be  limited  only  by  the  laws  of  supply 
and  demand  and  his  maximum  capacity. 

As  regards  the  buyer,  it  is  obvious  that  commercial  credit  extended 
to  him  in  convertible  form  would  be  limited  only  by  his  legitimate 
needs  and  ultimate  ability  to  pay,  while  credit  extended  to  him  through 
the  nonconvertible  book  account  is  limited  by  the  capital  of  the  seller 
and  many  other  extraneous  considerations. 

As  regards  the  general  credit  situation,  the  book  account  has  the 
same  effect  as  the  non-convertible  promissory  note,  which  has  already 
been  described. 

Need  any  more  be  said  to  show  that  the  mixed  promissory  note 
and  the  open  book  account  are  unsound  and  impracticable  mediums 
of  commercial  credit,  and  that  their  general  use  is  a  serious  handicap 
to  commercial  progress  ? 

The  European  method  of  extending  commercial  credit  is  free 
from  any  of  the  evils  mentioned  and  is  simple  and  uniform.  It 
consists  merely  of  the  use  of  the  draft  or  bill  of  exchange  in  all  cases 
where  we  use  the  book  account  and  promissory  note.  The  period  of 
credit  to  be  extended  is  agreed  upon  by  the  parties,  and  when  the 
seller  ships  his  goods  he  draws  a  draft  against  the  buyer,  payable  in 
thirty,  sixty,  or  ninety  days,  as  the  case  may  be,  for  the  amount  of 
the  invoice,  which  is  usually  attached  with  the  bill  of  lading  to  the 
draft.  The  draft  and  shipping  papers  may  be  forwarded  to  the  pur- 
chaser either  directly  or  through  the  banks,  as  may  be  deemed  advis- 
able. When  they  are  received,  the  purchaser  detaches  and  retains 
the  shipping  papers,  affixes  his  signature  to  the  draft  under  the  word 
"Accepted,"  and  returns  it  to  the  seller  or  the  bank  presenting  it,  as 
the  case  may  be.  It  thus  becomes  a  bill  of  exchange  which  can  be 
discounted  and  thereby  converted  into  cash  at  any  time. 


THE  INTERRELATIONS  OF  FINANCIAL  OPER.\TIONS        453 

220.    THE  ADVANTAGES  OF  THE  PROMISSORY  NOTE  OR 
SINGLE-NAME  BORROWING' 

By   J.   B.   FORGAN 

Commercial  paper  or  a  commercial  note  used  to  be  a  note  given 
by  a  firm  or  corporation  that  bought  goods  from  another  firm  or 
corporation.  This  note  was  discounted  by  the  firm  that  got  it,  with 
their  indorsement.  The  manufacturers  gave  credit  to  the  jobbers 
and  the  jobbers  gave  credit  to  the  retailers.  The  jobber  paid  the 
manufacturer  by  a  note  and  the  retailer  paid  the  jobber  by  a  note. 
This  was  extended  all  through  the  commercial  life. 

That  practice  still  prevails  in  England.  A  large  concern  like 
Marshall  Field  &  Company,  except  that  they  never  give  anything 
but  checks,  I  believe,  but  any  firm  in  their  line  doing  business  in  the 
old  way,  instead  of  going  to  their  bank  and  borrowing  money  on  their 
own  note,  would  go  to  the  manufacturer  and  would  arrange  that  he 
should  draw  on  them  at  sixty  or  ninety  days.  The  draft  would  be 
made  when  the  goods  were  shipped  and  the  firm  would  accept  it.  If 
the  firm's  credit  were  not  sufficiently  strong  for  its  paper  to  go  into 
the  market,  it  would  go  to  its  bank  and  get  it  to  accept  for  it. 

Eventually  we  developed  away  from  that.  Today  any  jobbing 
house  or  manufacturer  or  pretty  nearly  any  respectable  retail  house 
that  has  not  credit  of  its  own  sufficient  to  go  to  its  bank  and  discount 
its  own  paper  and  pay  cash  for  its  bills  is  on  a  black  list. 

The  poorest  paper  we  have,  and  we  have  very  little  of  it  in  Chi- 
cago, is  the  paper  given  by  the  purchaser  of  goods  for  the  goods. 
There  are  a  few  lines  of  business  where  the  old  system  is  kept  up,  but 
these  are  very  few. 

The  best  paper  we  have  is  the  paper  of  the  strongest  houses 
who  have  credit  of  their  own,  who  make  their  own  paper,  go  direct 
to  their  banks  with  it  or  to  a  broker,  place  it  on  the  market,  get  the 
cash,  and  use  the  cash  discount. 

The  system  of  cash  discounts  has  produced  this.  The  best 
thing  the  wholesale  houses  and  manufacturing  concerns,  in  the  ex- 
change of  credit  information  among  them,  can  say  about  their 
customers  is  that  they  always  take  the  cash  discount.  If  they  ha\-e 
anything  to  say  against  the  customer,  it  is  that  the  latter  docs  not 
take  the  cash  discount. 

'  From  "Testimony  before  Committee  Charged  with  Organizing  Federal 
Reserve  Banks,"  Bankers'  Magazine,  LXXXVIII  (1914),  280-83. 


454  PRINCIPLES  OF  MONEY  AND  BANKING 

You  can  easily  sec  that  the  expansion  is  not  nearly  so  great. 
If  the  concern  that  takes  the  ore  out  of  the  ground  is  going  to  get 
the  ore  to  the  furnace  on  credit  and  take  the  furnace's  note  for  it,  and 
if  the  furnace  is  going  to  sell  its  iron  production  to  the  manufacturer 
and  take  his  note,  and  if  the  manufacturer  is  going  to  sell  to  the 
iron  jobber  and  take  his  note,  and  the  iron  jobber  sell  to  the  retailer 
and  take  his  note,  you  have  five  or  six  notes  afloat  at  the  same  time 
representing  the  same  goods.  If  you  reduce  all  that  business  to  a 
cash  basis  and  have  the  ore  producer,  the  furnace  man,  and  so  on, 
only  borrowing  what  he  requires  at  his  own  bank  to  carry  on  his 
business,  there  is  much  less  flotation  and  expansion  of  credit  than  in 
the  other  way. 

They  carry  this  expansion  to  such  an  extent  in  England  that  a 
tailor  does  not  expect  to  be  paid  by  anybody  inside  of  a  year.  We 
do  not  have  such  a  credit  system  as  that.  We  pay  our  biUs.  We  are 
much  nearer  a  cash  basis  than  any  foreign  country.  This  will  have  to 
be  recognized.  The  paper  that  is  issued  for  commercial  purposes 
must  be  understood  to  be  used  for  commercial  purposes.  If  a  concern 
like  the  International  Harvester  Company  places  its  paper  on  the 
market  and  uses  the  money  in  its  business,  it  is  used  for  commercial 
purposes  and  it  will  have  to  be  construed  in  that  liberal  line. 

221.    INVESTMENT  BANKING  AND  BUSINESS  INFLATION' 

About  twenty-five  years  ago  Lord  Revelstoke,  at  the  head  of  the 
great  firm  of  Baring  Brothers,  was  visiting  a  German  watering  place 
where  he  met  one  of  our  leading  American  bankers.  Naturally  their 
conversation  drifted  into  a  discussion  of  the  financial  situation,  and 
in  the  course  of  the  talk  Lord  Revelstoke  remarked  that  he  intended 
during  the  next  ten  or  fifteen  years  to  enter  extensively  into  modern 
financial  banking.  From  that  time  the  character  of  the  business  of 
the  Barings  began  to  change,  and  from  being  the  greatest  merchants 
in  commercial  credits  they  put  their  resources  more  and  more  into 
fixed  forms  of  investment,  into  speculative  ventures  in  securities,  and 
into  the  promotion  of  financial  enterprises.  What  was  the  result? 
In  1890  the  world  was  startled  by  rumors  reflecting  upon  the  credit 
of  this  house,  hitherto  considered  invincible,  and  its  failure  was  only 
averted  by  the  most  strenuous  efforts  of  the  Bank  of  England,  with 
the  aid  of  the  strongest  bankers  of  London. 

^From  the  Wall  Street  Journal,  October  29,  1904.  Quoted  in  Cleveland,  The 
Bank  and  the  Treasury. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        455 

We  refer  to  this  striking  chapter  in  financial  history  simply 
because  it  illustrates  one  of  the  peculiar  dangers  of  our  own  times. 
Unquestionably  the  special  temptation  to  which  our  banks  are  now 
subjected  is  the  temptation  to  turn  from  commercial  to  financial 
banking;  to  change  from  the  buying  and  selling  of  commercial  credit 
to  investments  in  securities  and  loans  extended  to  promote  financial 
enterprise;  in  short,  to  change  their  business  from  that  of  commercial 
banks  to  that  of  finance  companies. 

The  process  of  concentration  in  banking  which  is  going  on  would 
possess  Httle  danger  were  it  not  accompanied  in  so  large  a  degree  by 
this  change.  The  house  of  the  Barings  was  a  striking  example  of 
concentration  in  banking.  Its  business  encircled  the  globe;  its 
wealth  was  enormous,  and  so  great  were  its  transactions  that  even  at 
the  time  of  its  trouble  in  1890  its  holdings  of  paper  amounted  to 
$100,000,000.  But  when  it  began  to  divert  itg  interest  and  began 
to  throw  the  weight  of  its  prestige  and  resources  into  the  field  of 
investment,  speculation,  and  promotion,  then  the  power  of  its  con- 
centration of  capital  became  a  menace  to  the  world.  In  the  same  way 
concentration  in  banking,  which  is  going  on  at  such  rapid  rate  in  New 
York,  would  not  be  open  to  much  or  any  criticism  if  such  concentra- 
tion was  employed  for  the  purpose  of  facilitating  the  commerce  of  the 
country  instead  of  being  used  in  purely  financial  undertakings. 

222.    WHY  "COMMERCIAL"  BANKS  BECAME  INVESTMENT 

BANKS' 

By  LOUIS  D.   BRANDEIS 

The  enormous  profits  from  promotions,  underwritings,  and 
security  purchases  in  the  investment  field  have  led  to  a  revolutionary 
change  in  the  conduct  of  our  leading  banking  institutions.  It  was 
ol)vious  that  control  by  the  investment  bankers  of  the  dei)osits  in 
banks  and  trust  companies  was  an  essential  clement  in  their  securing 
these  huge  i)rofits.  And  the  bank  officers  naturally  asked,  "Why, 
then,  should  not  the  banks  and  trust  companies  share  in  so  profitable 
a  field  ?  Why  should  not  they  themselves  become  investment  bankers 
too,  with  all  the  new  functions  incident  to  'Big  Business'?"  To  do 
so  would  involve  a  departure  from  the  legitimate  sphere  of  the  bank- 
ing business,  which  is  the  making  of  tem]x)rary  loans  to  business 

'  .\clapted  from  Other  People's  Money,  and  How  the  Bankers  Use  It,  pp.  26-27. 
(Frederick  \.  Stokes  Co.,  1914.    Originally  published  in  Harper's  Weekly.) 


456  PRINCIPLES  OF  MONEY  AND  BANKING 

concerns.  But  the  temptation  was  irresistible.  The  invasion  of  the 
investment  banker  into  the  bank's  field  of  operation  was  followed  by  a 
counter-invasion  by  the  bank  into  the  realm  of  the  investment  banker. 
Most  prominent  among  the  banks  were  the  National  City  and  the 
First  National  of  New  York.  But  theirs  was  not  a  hostile  invasion. 
The  contending  forces  met  as  allies,  joined  forces  to  control  the  busi- 
ness of  the  country,  and  to  '^ divide  the  spoils."  The  alliance  was 
cemented  by  voting  trusts,  by  interlocking  directorates,  and  by  joint 
ownerships.  There  resulted  the  fullest  "co-operation";  and  ever 
more  railroads,  public-service  corporations,  and  industrial  concerns 
were  brought  into  complete  subjection. 

223.    EFFECTS  OF  INDUSTRIAL  EXPANSION  ON  DEMAND 
DEPOSITS  OF  COMMERICAL  BANKS' 

By  FREDERICK  A.    CLEVELAND 

Between  1899  and  1902,  owing  to  the  tremendous  expansion  of 
business,  deposit  accounts  of  commercial  banks  increased  over  $4,000,- 
000,000,  or  more  than  double  the  entire  monetary  stock  of  the  country. 
During  the  same  years  the  specie  reserve  of  banks  remained  practically 
unchanged.  Moreover,  the  capital  of  these  institutions  had  not  been 
proportionately  increased. 

What  has  been  the  cause  of  this  enormous  expansion  of  bank 
credit  ?  The  answer  must  at  once  come  to  the  mind  of  any  observer 
of  finance  that  the  principal  reason  for  the  expansion  of  deposits 
(bank  credit  accounts)  and  the  accompanying  expansion  of  loans 
(commercial  paper  held  by  banks)  is  to  be  found  in  the  great  move- 
ment which  has  been  the  significant  feature  in  financial  affairs  of  the 
last  half-dozen  years,  the  movement  to  aggregate  industrial  estab- 
lishments into  single  great  corporate  units  and  to  convert  the  evidence 
of  ownership  into  corporate  securities  which  have  entered  actively 
into  the  stream  of  financial  operations.  Vast  amounts  of  new  securi- 
ties have  been  created  in  these  half-dozen  years,  based  in  a  large 
measure  upon  properties  which  were  before  held  as  fixed  investments 
by  individuals;  or,  if  standing  in  form  of  corporate  property,  the 
securities  of  these  corporations  were  more  closely  held,  and  in  but 
small  measure  entered  into  the  financial  operations  of  the  day.  This 
movement,  tending  to  convert  the  evidences  of  ownership  of  a  great 

'  Adapted  from  The  Bank  and  the  Treasury,  pp.  5-1 1.  (Longmans,  Green,  & 
Co.,  1908.) 


THE  INTERRELATIONS  OF  FINANCL\L  OPERATIONS        457 

amount  of  fixed  property  into  a  form  which  has  been  considered  as 
bank  collateral,  and  which  has  been  made  the  basis  of  loans  and  of 
corresponding  increases  of  deposits,  is  undoubtedly  the  most  important 
single  cause  for  the  increase  of  more  than  four  billion  dollars  in  bank 
credit  obligations  to  depositors  and  a  corresponding  increase  in 
commercial  paper  held  by  banks  in  this  country  during  the  brief 
period  of  three  or  four  years. 

Attention  may  be  called  to  the  fact  that  the  depression  from  1893 
to  1896  was,  as  were  other  similar  periods,  one  of  financial  reorgani- 
zation— one  during  which  new  economies  were  introduced  into  our 
industrial  establishments.  During  this  period  of  depression  also  the 
water  had  been  gradually  squeezed  out  of  previously  inflated  capital- 
izations; again  the  nation  had  come  to  rely,  for  its  "cash"  as  well  as 
for  its  income,  on  profits  from  legitimate  business.  With  this  better 
industrial  equipment  we  were  able  to  sell  pig  iron  at  a  profit  at  $10 
to  $12  a  ton;  steel  rails  were  sold  with  a  liberal  return  to  capital  at 
$17.50  per  ton,  and  bar  iron  entered  a  profitable  market  at  95  cents 
per  hundred. 

After  business  had  been  reorganized  on  a  lower  basis  of  capital 
liabilities,  thousands  of  commodities  were  produced  with  profit  at 
prices  such  that  they  began  to  find  their  way  into  foreign  marts  and, 
in  competition  with  foreign-made  goods,  undersold  them.  Europe 
was  startled  at  our  newly  developed  commercial  strength.  Our 
appearance  with  shiploads  of  products  that  others  could  not  manu- 
facture at  competitive  prices  made  the  world  realize  that  in  the 
Western  continent  were  resources  and  industrial  estabUshments  that 
in  an  open  market  with  free  competition  might  bid  defiance  to  all 
Europe.  Under  such  circumstances  bills  of  exchange  drawn  against 
the  sale  of  American  goods  formed  a  true  basis  for  commercial  bank 
loans. 

What  was  the  result,  however,  when  the  commercial  bank 
extended  its  support  to  the  capitalization  of  new  promotions  and 
became  the  chief  factor  in  the  "industrial  speculation"  that  grew 
out  of  this  sudden  national  awakening?  Instead  of  limiting  the 
commercial  banking  business  to  the  service  of  a  commercial  constitu- 
ency, instead  of  devoting  the  funds  of  commercial  banks  to  the 
accommodation  of  producers  and  merchants,  a  system  of  undensTiting 
new  flotations  was  inaugurated.  This  was  not  a  novel  experience. 
Similar  practice  is  recalled  by  the  ex-Assistant  Secretary  of  the  Treas- 
ury, l)y  reference  to  the  "real  estate"  restriction  in  the  National  Bank 


458  PRINCIPLES  OF  MONEY  AND  BANKING 

Act.  Back  of  the  law  forbiddinj^  the  banks  to  loan  on  real-estate 
securities  may  be  seen  the  long  periods  of  industrial  depression  and 
financial  reorganization  following  the  panics  of  1825,  1837,  and  1847. 

Each  period  of  prosperity  immediately  preceding  these  crises  had 
been  one  of  capitalization  of  new  promotions.  At  that  time,  however, 
speculation  was  based  on  the  possibilites  of  increasing  profits  to  be 
derived  from  the  development  of  agricultural  resources.  Westward 
immigration  had  appropriated  for  use  large  areas,  a  new  empire  of 
grain  lands  for  which  new  transportation  development  had  opened  a 
market  to  the  seaboard.  New  cotton,  tobacco,  and  hemp  lands 
enlarged  this  area  to  such  an  extent  that  the  territory  appropriated 
but  still  undeveloped  was  larger  than  the  old  Atlantic  slope  to  which 
capital  had  before  confined  its  investments.  In  these  new  areas  all 
other  demands  gave  way  to  the  clamor  for  new  capital,  and  the  com- 
mercial banks  attempted  to  supply  this  demand. 

The  failure  of  some  eight  hundred  commercial  banking  institu- 
tions during  1837  and  1838  was  the  result  of  this  kind  of  bank-credit 
employment;  the  failure  of  nearly  fifteen  hundred  banks  during  the 
next  three  decades  of  State  banking  based  on  investment  securities 
brought  to  the  mind  of  practical  bankers  the  character  and  purpose 
of  the  commercial  bank.  In  1903  and  1904,  while  Europe  was  going 
through  the  throes  of  financial  reorganization,  our  farmers  were 
blessed  with  large  crops  and  high  prices;  a  kind  and  bountiful  Provi- 
dence filled  the  granaries  and  the  storehouses  of  the  great  West  and 
South,  permitting  us  to  levy  tribute  on  a  distressed  world.  Tempora- 
rily judgment  of  our  financial  folly  was  suspended,  but  the  instru- 
ments of  self-destruction  were  still  in  the  hands  of  an  unthinking 
speculative  public.  These  instruments  of  destruction  were  placed  in 
the  hands  of  speculators  by  commercial  banks  in  the  great  financial 
centers.  They  were  not  used  alone  in  self-destruction,  but  they 
carried  merchant  and  manufacturer  with  them. 

224.    RESULTS  OF  INVESTMENT  LOANING  BY  COMMERCL\L 

BANKS' 

By  WILLIAM   A.   SCOTT 

When  commercial  banks  create  their  own  demand  obligations, 
either  in  the  form  of  checking  accounts  or  notes  against  investment 
securities,  they  are  creating  an  obligation  which  they  may  not  be 

'Adapted  from  "Investment  vs.  Commercial  Banking,"  Proceedings  of  the 
Second  Annual  Convention  of  the  Investment  Bankers'  Association  of  America,  1913, 
pp.  81-84. 


THE  IXTERRELATIOXS  OF  FIXAXCIAL  OPERATIOXS        459 

able  to  meet.  When  they  exchange  credit  accounts  for  commercial 
securities,  the  ordinary  processes  of  commerce  bring  into  their  pos- 
session day  by  day  the  means  of  meeting  the  obligations  which  they 
create;  but  when  they  create  such  obligations  against  investment 
securities  the  funds  regularly  coming  into  their  possession  for  the 
meeting  of  such  obligations  are  quite  inadequate  for  the  purpose. 
The  enterprises  which  these  investment  securities  represent,  however 
productive  they  may  be,  bring  into  existence  only  after  a  series  of 
years  an  amount  of  produce  sufficient  to  bflset  the  original  investment. 
If  such  an  enterprise  produces  a  profit  of  10  per  cent  a  year,  it  takes 
ten  years  to  reproduce  itself.  If  only  5  per  cent  profit  per  annum  is 
produced,  twenty  years  are  required.  The  demand  obligations  created 
by  the  banks,  however,  must  be  met  long  before  these  periods  of  time 
elapse. 

The  result  of  such  loans  is  overexpansion  or  inflation  of  credit, 
that  is,  the  banks  have  created  obligations  against  themselves  which 
they  are  not  able  to  meet  in  the  normal  course  of  business.  So  long 
as  business  is  prosperous  all  goes  well;  but  as  soon  as  there  is  a  break 
somewhere  in  the  industrial  system  and  borrowers  for  investment 
uses  are  unable  to  pay,  serious  trouble  follows;  The  only  means  by 
which  the  banks  can  meet  such  obligations  when  they  mature  is  by 
the  sale  on  the  market  of  the  securities  in  their  possession  not  yet  due, 
and  while  an  individual  bank  may  be  able  to  transfer  such  securities 
to  another  institution,  and  the  banks  of  a  country  as  a  whole  some- 
times may  be  able  to  transfer  them  to  the  banks  of  other  countries, 
the  danger  is  always  present  that  such  transfers  cannot  be  made,  and 
even  if  they  can  be,  only  at  a  great  sacrifice.  Forced  liquidation,  in 
other  words,  is  a  necessary  outcome  of  overexpansion  of  credit 
caused  by  the  exchange  of  investment  securities  for  checking  accounts, 
and  if  such  forced  liquidation  is  general  throughout  a  country  and 
attempted  on  a  large  scale,  it  can  only  be  accomplished  through  the 
agency  of  the  bankruptcy  courts,  and  when  these  function  on  a  large 
scale,  commercial  crisis  is  inevitable. 

The  fact  that  the  paper  of  customers  is  drawn  for  thirty,  sixty, 
ninety  days,  four  or  six  months  enables  the  banker  to  force  this 
liquidation  process  upon  customers,  but  this  fact  does  not  protect 
the  country  from  the  consequences  of  such  liquidation.  Sacrifice  of 
property,  fall  in  prices,  commercial  failures  on  a  large  scale,  and  a 
general  readjustment  of  commercial  and  industrial  relations  cannot 
thus  l)e  avoided. 


46o  TRINCIPLES  OF  MONEY  AND  BANKING 

B.     The  Federal  Reserve  System  and  Investment  Operations 

225.    EFFECT  OF  THE  NEW  SYSTEM  ON  STOCK 
EXCHANGE  SPECULATION' 

By  THOMAS  CONWAY  and  ERNEST  M.  PATTERSON 

The  effect  of  the  Federal  Reserve  Act  upon  stock  exchange  specu- 
lation in  New  York  City  will  be  watched  with  the  greatest  interest 
by  everyone  interested  in  banking.  Some  will  look  with  concern  lest 
the  new  law,  by  suddenly  depriving  stock  and  investment  markets 
of  funds,  will  create  disorganization,  palsying  new  construction  which 
must  be  financed  through  sale  of  securities,  and  unsettling  the  value 
of  collateral  upon  which  thousands  of  business  men  have  negotiated 
loans  to  carry  on  their  enterprises.  Others  will  be  interested  to  see 
whether  New  York's  power  and  prestige  will  be  diverted  to  other 
centers  with  the  localization  of  funds  in  these  new  districts.  Everyone 
will  be  interested  to  know  whether  it  will  destroy  the  efficacy  of  the 
so-called  "Money  Trust,"  which  is  founded  primarily  upon  the  con- 
trol of  a  comparatively  small  number  of  banking  institutions  that 
hold  these  bankers'  deposits  from  the  other  sections  of  the  country. 

It  is  impossible  to  answer  any  of  these  questions  authoritatively. 
It  would  appear  that  the  day  of  exceedingly  cheap  money  for  stock 
exchange  uses  is  past.  Without  a  law  which  renders  an  enormous 
amount  of  money  idle,  thereby  enabling  the  New  York  banks  to 
attract  it  to  New  York  with  a  2  per  cent  interest  rate,  it  will  be  im- 
possible for  the  New  York  institutions  to  offer  call  money  at  an  average 
rate  of  about  2I  per  cent,  as  has  been  the  case  within  the  last  ten 
years. 

The  stock  speculator  and  the  investment  banker  who  are  carrying 
securities  until  such  time  as  they  can  dispose  of  them  will  have  to 
pay  rates  of  interest  approximating  those  which  have  prevailed  abroad 
and  which  are  determined  by  commercial  borrowers.  Call  loans  will 
probably  be  offered  at  attractive  rates  in  Umited  amount,  but  the 
great  bulk  of  money  will  probably  be  secured  at  interest  rates  of 
4  per  cent  or  over.  Certain  New  York  bankers  expressed  the  opinion 
before  the  Congressional  committee  that  it  would  be  impossible  to 
deprive  New  York  of  funds  for  stock  exchange  uses  so  long  as  the 
borrowers  were  willing  to  pay  a  good  rate  of  interest.    A  compara- 

'  Adapted  from  The  Operation  of  the  New  Bank  Ad,  pp.  364-66.  (J.  B.  Lippin- 
cott  Co.,  1914.)  \ 


THE  INTERRELATIONS  OF  FINANCL\L  OPEIL\TIOXS        461 

tively  small  number  of  New  York  City  banks  now  have  funds  of  1 5,000 
other  banks.  These  gentlemen  predicted  that  these  institutions  could 
induce  the  out-of-town  banks  to  rediscount  commercial  paper  at,  say, 
3  or  4  per  cent,  which  might  then  be  the  rate,  forwarding  the  proceeds 
to  New  York  to  be  loaned  out  upon  stock  exchange  collateral  at,  say, 
5  or  6  per  cent.  The  profits  to  be  derived  from  this  transaction  are, 
in  their  opinion,  so  obvious  as  to  tempt  many  bankers.  Such  a  prac- 
tice, if  it  should  develop  to  any  large  degree,  would  be  unfortunate, 
for  by  indirection  it  would  work  an  evasion  of  the  plain  intent  of 
the  act. 

Looked  at  from  another  standpoint,  however,  the  matter  does 
not  seem  to  be  as  serious  as  might  appear  on  the  surface.  There  is 
abundant  testimony  to  support  the  statement  that  it  is  very  difficult 
to  carry  on  profitable  speculative  operations  on  a  large  scale  with 
high  interest  rates;  but  so  long  as  the  money  is  not  being  used  to 
conduct  feverish  and  undesirable  speculation,  from  a  national  stand- 
point, there  is  no  reason  why  New  York  should  not  be  allowed  to 
attract  it. 

226.    THE  FEDERAL  RESERVE  SYSTEM  AND  INDUSTRIAL 

EXPANSION' 

By  C.  W.   BARRON 

The  expansion  that  is  made  possible  by  the  economizing  and 
lowering  of  bank  reserves  under  the  new  bank  law  must  go  primarily 
to  constructive  industry.  With  the  lowering  of  interest  rates  there  will 
be  rising  prices  for  stocks  and  bonds  until  the  returns  are  so  low  that 
money  is  invited  into  the  constructive  field.  Afterward  it  will  require 
all  the  power  of  the  Federal  Reserve  Board  to  hold  Wall  Street  and 
the  expansive  building  industry  of  the  country  in  check. 

Overinvestment  in  stocks  and  bonds  is  an  absolute  requisite  in 
the  construction  and  upbuilding  of  this  country.  When  high  interest 
rates  arc  maintained,  as  in  the  past  year,  construction  slows  down, 
and  the  moment  there  is  a  restoration  of  confidence,  or  prospects  for 
higher  investment  prices,  as  at  the  opening  of  1914,  there  is  a  sudden 
outpouring  of  investment  moneys.  The  undigested  bonds  are  taken 
from  the  banks  and  the  bank  loans  by  the  hundred  million. 

We  have  money  enough  and  credit  enough  to  carry  our  commercial 
transactions  and  four  or  iivc  years  of  overinvestment.    We  need  at 

'  Adapted  from  The  Federal  Reserve  Act,  pp.  68-73.  (Boston  News  Publishing 
Co.,  1914.) 


462  PRIXCIPLES  OF  MONEY  AND  HAXKIXO 

least  three  years  of  construction  or  overinvestment  to  be  carried  in 
bank  loans  before  properties  are  in  shape  for  difjestion  by  investors. 
But  do  we  need  more  than  five  years?  And  will  there  be  danger 
under  the  new  bank  act  in  a  few  years  of  finding  that  we  are  six  or 
seven  years  overinvested,  our  credit  reserves  exhausted,  and  our 
currency  base  endangered  ? 

That  question  can  be  answered  only  by  the  new  Federal  Reserve 
Board,  and  after  all  they  may  have  very  little  to  say  about  it  at  first. 
After  rediscounting  enough  commercial  bills  to  earn  dividends  on  the 
new  Reserve  Bank  shares  and  to  insure  against  contraction,  they  must 
rest  their  activities  in  this  direction. 

A  steady  bank  rate  and  the  assurance  of  relief  when  needed  will 
alone  be  sufficient  to  give  confidence  for  construction  expansion 
outside  the  railroads. 

With  confidence  credit  comes  fully  forth,  and  with  full  credit 
there  is  little  need  for  currency  or  Treasury  reserves.  Until  one  or 
the  other  is  called  for,  the  Federal  Board  can  have  little  control  unless 
it  undertakes  to  regulate  the  future  in  finance  and  raise  the  money 
rate  and  curtail  credit  when  confidence  is  in  full  swing. 

The  lending  outside  the  reserve  system  based  on  demand  promises 
will  be  greater  than  within  the  system,  and  especially  so  as  regards 
construction  and  stocks  and  bonds.  Here  will  be  the  first  sign  of 
trouble  in  future  years. 

227.     COMMERCIAL  PAPER  UNDER  THE  NEW  SYSTEM^ 
By  EUGENE  E.   AGGER 

As  a  basis  of  the  projected  discount  market,  the  act  provides  for 
three  kinds  of  paper  as  follows:  (c)  commercial  paper,  namely, 
"notes,  drafts,  and  bills  of  exchange  arising  out  of  actual  commercial 
transactions,"  that  is,  paper  "issued  or  drawn  for  agricultural,  indus- 
.  trial,  or  commercial  purposes,  or  the  proceeds  of  which  have  been  used 
or  are  to  be  used  for  such  purposes";  (b)  commodity  paper,  namely, 
paper  secured  by  "staple  agricultural  products  or  other  goods,  wares, 
or  merchandise";  and,  lastly,  (c)  acceptances  growing  out  of  exports 
and  imports.  But  while  the  act  itself  imposes  certain  requirements 
on  the  paper  eligible  for  rediscount  at,  or  for  purchase  by,  the  Federal 
Reserve  Banks,  it  imposes  on  the  Federal  Reserve  Board  the  responsi- 
bility of  determining  in  detail  the  character  of  such  paper. 

'  Adapted  from  "Commercial  Paper  and  the  Federal  Reserve  Board,"  Aiuiah 
of  the  American  Academy  of  Political  and  Social  Science,  LXIII  (1916),  106-09. 


THE  IXTERRELATIOXS  OF  EIXAXCIAL  OPERATIOXS         463 

In  view  of  the  peculiar  development  of  American  credit  methods 
in  the  past,  there  arose,  after  the  passage  of  the  Federal  Reserve  Act, 
the  liveliest  discussion  as  to  the  manner  in  which  the  Reser\'e  Board 
should  exercise  the  responsibility  thus  entrusted  to  it.  Owing  to  the 
specific  provisions  of  the  act  there  was  no  serious  difference  of  opinion 
about  commodity  paper  and  about  acceptances  growing  out  of  exports 
and  imports.  But  with  respect  to  the  "notes,  drafts,  and  bills  of 
exchange  arising  out  of  actual  commercial  transactions"  the  dis- 
cussion waxed  warm.  The  issue  was  drawn  between  what  is  known 
as  "single-name  paper"  and  what,  on  the  other  hand,  is  known  as 
"double- name  paper."  There  is  no  occasion  in  this  place  for  referring 
to  the  sundry  interesting  representations  made  by  both  sides.  Suffice 
it  to  say  that  the  question  involved,  first,  the  desirability  of  including 
single-name  paper  at  all,  and,  second,  assuming  a  definition  of  char- 
acter broad  enough  to  include  it,  the  further  question  as  to  whether 
for  discount  purposes  there  should  not  be  a  discrimination  against 
single-name  paper  in  favor  of  double-name  paper.  In  view  of  the 
widespread  dependence  upon  single-name  paper  in  the  United  States, 
however,  there  was  also  much  difference  of  opinion  as  to  whether  the 
two-name  system  could  be  successfully  propagated  here. 

After  setting  forth  clearly  the  essentials  of  the  question  the  com- 
mittee of  banking  experts  which  had  been  selected  to  study  the  whole 
question  of  the  organization  of  reser\'e  banks  came  to  the  conclusion 
that  it  was  clearly  the  intention  of  Congress  to  include  in  the  paper 
eligible  for  rediscount  single-name  paper  having  the  prescribed  quali- 
fications. It  based  its  conclusion  on  the  fact  that  the  act  specifically 
mentioned  not  only  instruments  the  proceeds  of  which  had  been 
used  for  agricultural,  industrial,  and  commercial  transactions,  but 
also  those  which  were  to  be  used  for  such  purposes.  A  two-name  bill 
assumes  a  transaction  completed;  hence  a  contemplated  transaction 
could  hardly  give  rise  to  a  two-name  bill.  But  the  committee  pointed 
out  that  while  single-name  paper  was  to  be  included  there  must  be 
no  doubt  about  the  use  of  the  proceeds  for  strictly  commercial  purposes. 

The  committee  then  discussed  the  means  that  might  be  employed 
for  preventing  the  use  of  the  proceeds  of  rediscountcd  paper  for  the 
forbidden  purposes  of  obtaining  current  capital  and  of  financing 
speculation.  It  pointed  out  that  in  practice  it  would  be  impossible 
as  well  as  unnecessary  to  insure  the  use  in  the  permitted  directions  of 
the  particular  sums  advanced  by  the  banks  on  rediscounted  paper 
as  long  as  there  was  the  assurance  that  "an  ecjual  sum  drawn  from 


464  PRINCIPLES  OF  MONEY  AND  BANKING 

the  liquid  resources  of  the  concern  receiving  the  advance  is  so  applied." 
In  other  words,  according  to  the  committee  it  is  a  question  simply  as 
to  whether  the  person  or  firm  getting  the  advance  "is  engaged  in 
actual  business  of  the  kind  referred  to  and  is  in  liquid  condition." 
That  the  committee  favored,  however,  as  full  a  restriction  of  single- 
name  paper  as  possible  is  indicated  in  the  statement  that  "wherever 
possible  the  proportion  of  single-name  paper  allowed  to  figure  in  the 
rediscounts  of  a  Federal  Reserve  Bank  should  be  confined  to  the  lowest 
basis  consistent  with  the  welfare  and  convenience  of  the  business 
community." 

The  committee  also  suggested  means  of  accelerating  the  develop- 
ment of  two-name  paper  and,  at  the  same  time,  of  restricting  single- 
name  paper.  It  looked  with  favor  on  a  "differential  rate"  slightly 
in  favor  of  double-name  paper.  It  suggested  the  possibility  of 
"restricting  the  total  amount  of  single-name  paper  admitted  to 
rediscount  to  a  given  percentage  of  the  gross  rediscounts  of  the 
Reserve  Bank  in  question."  Along  this  same  line  the  committee 
deemed  worthy  of  mention  also  that  note  brokers  might  be  required 
under  certain  conditions  personally  to  endorse  the  single-name  paper 
which  they  offer  for  sale  to  the  banks  of  the  Reserve  System. 

At  the  conclusion  of  its  discussion  of  this  subject  the  committee 
summed  up  its  recommendations  and  enumerated  the  points  that  it 
considered  essential  in  determining  the  practice  of  the  reserve  banks. 
Single-name  paper  must  of  course  be  considered  eligible,  but  the  com- 
mittee stated  that  owing  to  the  possibility  of  using  single-name  paper 
for  purposes  of  speculation  the  responsibiUty  must  devolve  on 
the  member  banks  to  see  to  it  that  funds  originally  derived  from  the 
sale  of  single-name  paper  are  properly  applied.  Furthermore,  the 
committee  believed  that  the  drawer  of  single-name  paper  should 
secure  his  financial  responsibiUty  by  a  proper  statement  and  that, 
when  presented  for  rediscount,  his  paper  should  have,  in  addition  to 
the  member  bank's  endorsement,  a  statement  signed  by  an  officer  of 
the  bank  that  to  his  "best  knowledge  and  belief"  the  proceeds  of  the 
paper  had  been  or  were  to  be  used  for  business  of  a  strictly  current 
nature  and  not  for  what  might  be  construed  as  merely  an  investment. 

As  to  two-name  paper,  the  committee  believed  that  by  a  customary 
credit  statement  the  responsibility  of  either  maker  or  endorser  should 
be  reasonably  assured  by  the  member  bank  presenting  the  paper  for 
rediscount,  and,  further,  that  in  the  original  discount  the  practice 
ought  to  be  to  require  that  at  least  one  of  the  parties  involved  file  a 


THE  INTERRELATIOKS  OF  FINANCIAL  OPER.\TIONS        465 

statement  with  the  member  bank.  Lastly,  the  committee  recom- 
mended separate  schedules  and  statements  for  the  two  kinds  of  paper. 
The  action  taken  by  the  Resers'e  Board  itself  in  connection  with 
the  paper  eligible  for  rediscount  and  with  that  eligible  for  the  open 
market  operations  of  the  reserve  banks  is  to  be  found  in  a  series  of 
circulars  and  regulations  issued  by  the  Board  from  time  to  time,  as 
circumstances  seemed  to  demand. 

228.     REGULATIONS  REGARDING  COMMERCIAL  PAPER' 
I.      GENERAL  PRINCIPLES 

The  Federal  Reserve  Board,  under  section  13  of  the  Federal 
Reserve  Act,  has  the  right  to  determine  or  define  the  character  of 
paper  eligible  for  discount,  to  wit,  "notes,  drafts,  and  bills  of  exchange 
arising  out  of  actual  commercial  transactions;  that  is,  notes,  drafts, 
and  bills  of  exchange  issued  or  drawn  for  agricultural,  industrial,  or 
commercial  purposes,  or  the  proceeds  of  which  have  been  used  or  are  to 
be  used  for  such  purposes." 

Bearing  in  mind  the  requirements  of  the  present  situation,  the 
Federal  Reserve  Board  believes  that  it  would  be  inadvisable  at  this 
time  to  issue  regulations  placing  a  narrow  or  restricted  interpretation 
upon  the  section  defining  the  character  of  paper  eligible  for  discount. 
It  has,  therefore,  been  decided  not  at  this  time  to  enter  upon  the 
discussion  of  the  question  of  single-  or  double-name  paper,  but  to 
admit  both  forms  of  bills  to  rediscount  with  the  Federal  Reserve 
Banks. 

The  Federal  Reserve  Board  proposes,  however,  to  prescribe  the 
following  basic  principles  for  the  guidance  of  Federal  Reserve  Banks 
and  member  banks. 

a)  No  biU  shall  be  admitted  to  rediscount  by  Federal  Reserve  Banks 
the  proceeds  of  which  have  been  or  are  to  be  applied  to  permanent  invest- 
ment, and  Regulation  No.  2  has  been  formulated  with  the  intention  of 
giving  effect  to  this  principle,  and  is  herewith  inclosed. 

b)  Maturities  of  discounted  bills  should  be  well  distributed.  It  is  the 
well-established  practice  of  European  reserve  banks  to  invest  only  in  obli- 
gations maturing  within  a  short  time.  It  is  a  general  rule  not  to  purchase 
paper  having  more  than  90  days  to  run.  The  maturities  of  these  notes 
and  bills  are  so  well  distributed  as  to  enable  those  banks  within  a  short  time 
to  strengthen  their  hold  on  the  general   money  market  by  collecting  at 

'Adapted  from  Federal  Reserve  Board  Circular  No.  ij,  November  10,  1914, 
and  Regulation  B,  January  25,  1915. 


466  PRINCIPLES  OF  MONEY  AND  HA X KING 

maturily  or  by  reinvesting  at  a  higher  rate  a  very  substantial  proportion 
of  their  assets.  Acting  on  this  principle,  the  Federal  Reserve  Banks  should 
be  in  position  to  hquidate,  whenever  such  a  course  is  necessary,  substantially 
one-third  of  all  their  investments  within  a  period  of  30  days.  Departure 
from  this  principle  will  endanger  the  safety  of  the  system.  It  is  observance 
of  this  principle  that  affords  justification  for  permitting  member  banks  to 
count  balances  with  Federal  Reserve  Banks  as  the  equivalent  of  cash 
reserves. 

c)  Bills  should  be  essentially  self -liquidating. 

Safety  requires  not  only  that  bills'  held  by  the  Federal  Reserve 
Banks  should  be  of  short  and  well-distributed  maturities,  but,  in 
addition,  should  be  of  such  character  that  it  is  reasonably  certain 
that  they  can  be  collected  when  they  mature.  They  ought  to  be 
essentially  "self-liquidating,"  or,  in  other  words,  should  represent  in 
every  case  some  distinct  step  or  stage  in  the  productive  or  distributive 
process — -the  progression  of  goods  from  producer  to  consumer.  The 
more  nearly  these  steps  approach  the  final  consumer  the  smaller  will 
be  the  amount  involved  in  each  transaction  as  represented  by  the  bill, 
and  the  more  automatically  self-liquidating  will  be  its  character. 

Double-name  paper  drawn  on  a  purchaser  against  an  actual  sale 
of  goods  affords,  from  the  economic  point  of  view,  prima  facie  evi- 
dence of  the  character  of  the  transaction  from  which  it  arose.  Single- 
name  notes,  now  so  freely  used  in  the  United  States,  may  represent 
the  same  kind  of  transactions  as  those  bearing  two  names.  Inasmuch, 
however,  as  the  single-name  paper  does  not  show  on  its  face  the 
character  of  the  transaction  out  of  which  it  arose — an  admitted 
weakness  of  this  form  of  paper — it  is  incumbent  upon  each  Federal 
Reserve  Bank  to  insist  that  the  character  of  the  business  and  the 
general  status  of  the  concern  supplying  such  paper  should  be  carefully 
examined  in  order  that  the  discounting  bank  may  be  certain  that  no 
such  single-name  paper  has  been  issued  for  purposes  excluded  by  the 
act,  such  as  investments  of  a  permanent  or  speculative  nature.  Only 
careful  inquiry  on  these  points  will  render  it  safe  and  proper  for  a 
Federal  Reserve  Bank  to  consider  such  paper  a  "  self -liquidating " ' 
investment  at  maturity. 

II.      STATUTORY   REQUIREMENTS 

The  Federal  Reserve  Act  provides  that  a  bill,  other  than  an 
acceptance,  to  be  eligible  for  rediscount  by  a  member  bank  with  a 

'For  brevity's  sake  the  words  "bills"  and  "notes"  whenever  used  in  these 
paragraphs  include  bills,  notes,  and  drafts,  as  specified  in  the  act. 


THE  INTERRELATIONS  OF   FINANCIAL  OPERATIONS         467 

Federal  Reserve  Bank,  must  comply  wilh  the  following  statutory 
requirements: 

a)  It  must  be  indorsed  by  a  mcmbtT  bank,  accompanied  by  a  waiver 
of  demand,  notice,  and  protest. 

b)  It  must  have  a  maturity  at  the  lime  of  discount  of  not  more  than  90 
days,  except  as  provided  by  Regulation  C,  accompanying  Circular  No.  4, 
Series  of  1915. 

c)  It  must  have  arisen  out  of  actual  commercial  transactions;  that  is, 
be  a  bill  which  has  been  issued  or  drawn  for  agricultural,  industrial,  or 
commercial  purposes,  or  the  proceeds  of  which  have  been  or  are  to  be  used 
for  such  purposes. 

d)  It  must  not  have  been  issued  for  carrying  or  trading  in  stocks, 
bonds,  or  other  investment  securities  except  bonds  and  notes  of  the  Gov- 
ernment of  the  United  States;  but  the  pledge  of  goods  as  security  for  a 
bill  is  not  prohibited. 

III.      CHARACTER   OF   PAPER  ELIGIBLE 

The  Federal  Reserve  Board,  exercising  its  statutory  right  to 
define  the  character  of  a  bill  eligible  for  rediscount  at  a  Federal 
Reserve  Bank,  has  determined: 

a)  That  it  must  be  a  bill  the  proceeds  of  which  have  been  used  or  are 
to  be  used  in  producing,  purchasing,  carrying,  or  marketing  goods  in  one 
or  more  of  the  steps  of  the  process  of  i)roduclion,  manufacture,  and  dis- 
tribution. 

b)  That  no  bill  is  "eligible"  the  proceeds  of  which  have  been  usctl  or 
are  to  be  used: 

(i)  For  permanent  or  fixed  investments  of  any  kind,  such  as  land, 
buildings,  machinery  (including  therein  additions,  alterations, 
or  other  permanent  improvements,  except  such  as  are  properly 
to  be  regarded  as  costs  of  operation).  It  may  be  considered  as 
sufiicient  evidence  of  compliance  with  this  requirement  if  the 
borrower  shows,  by  statement  or  otherwise,  that  he  has  a 
reasonable  excess  of  quick  assets  over  his  current  liabilities  on 
open  accounts,  short-term  notes,  or  otherwise; 

(2)  For  investments  of  a  merely  speculative  character,  whether 
made  in  goods  or  otherwise. 

IV.      METIKJD   OF   CERTIFYING  ELIGIBILITY 

Any  member  bank  applying  for  rediscount  of  a  bill  after  July  15, 
1915,  must  certify  in  its  letter  of  application,  over  the  signature  of  a 
duly  authorized  officer,  that  to  the  best  of  its  knowledge  and  belief 


468  PRINCIPLES  OF  MONEY  AND  BANKING 

the  bill  was  issued  for  one  of  the  purposes  mentioned  in  the  above 
paragraphs  and  conforms  to  section  13  of  the  Federal  Reserve  Act 
and  to  this  regulation. 

It  is  recommended  that  every  member  bank  maintain  a  file 
which  shall  contain  original  signed  statements  of  the  financial  con- 
dition of  borrowers,  or  true  copies  thereof,  certified  by  a  member 
bank  or  by  a  notary  public,  designating  where  the  original  statement 
is  on  file.  Statements  should  contain  all  the  information  essential 
to  a  clear  and  correct  knowledge  of  the  borrower's  credit  and  of  his 
method  of  borrowing.  A  schedule  specifying  certain  information, 
which  it  is  desirable  that  such  statements  should  include,  is  hereto 
appended. 

Member  banks  shall  certify  in  their  letters  of  application  for 
rediscount  whether  the  paper  offered  for  rediscount  is  depositor's  or 
purchased  paper,  or  paper  rediscounted  for  other  member  banks,  and 
whether  statements  are  on  file.  When  it  does  not  appear  that  such 
statements  are  on  file,  except  as  hereinafter  provided  under  (i),  (2), 
and  (3)  below,  the  Federal  Reserve  Bank  shall  satisfy  itself  as  to  the 
eligibility  of  the  paper  offered  for  rediscount,  and  member  banks  will 
be  expected  to  use  such  statement  forms,  identifying  stamps,  etc.,  as 
may  be  prescribed  by  the  respective  Federal  Reserve  Banks. 

Any  member  bank  rediscounting  with  a  Federal  Reserve  Bank 
paper  acquired  from  another  member  bank,  with  the  indorsement  of 
such  member  bank,  may  accept  such  member's  certification  regarding 
the  character  of  the  paper  and  the  existence  of  the  necessary  state- 
ments. • 

Statements  of  the  borrower's  financial  condition  may  be  waived 
where  bills  offered  for  rediscount  have  been  discounted  by  member 
banks  for  any  of  their  depositors  in  the  following  cases: 

(i)  If  the  bill  bears  the  signatures  of  the  purchaser  and  the  seller  of 
the  goods  and  presents  prima  facie  evidence  that  it  was  issued  for  goods 
actually  piurchased  or  sold;  or 

(2)  If  the  aggregate  amount  of  obligations  of  such  depositor  actually 
rediscounted  and  offered  for  rediscount  does  not  exceed  $5,000,  but  in  no 
event  a  sum  in  excess  of  10  per  centum  of  the  paid-in  capital  of  the  member 
bank;   or 

(3)  If  the  bill  be  specifically  secured  by  approved  warehouse  receipts 
covering  readily  marketable  staples: 

Provided,  however,  That  the  bank  shall  certify  to  these  conditions  on 
the  application  blank  in  a  manner  to  be  designated  by  the  respective 
Federal  Reserve  Banks. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        469 

V.    SIX  months'  agricultural  paper' 

Each  Federal  Reserve  Bank  may  receive  for  discount  bills  which 
have  a  maturity  of  more  than  three  but  less  than  sLx  months,  in  an 
aggregate  amount  equal  to  a  percentage  of  its  capitdl  stock  to  be 
fixed  from  time  to  time  for  each  Federal  Reserve  Bank  by  the  Federal 
Reserve  Board. 

Provided,  however,  That  such  bills  are  drawn  or  issued  for  agri- 
cultural purposes  or  are  based  on  live  stock;  that  is,  that  their  pro- 
ceeds have  been  used  or  are  to  be  used  for  agricultural  purposes, 
including  the  breeding,  raising,  fattening,  or  marketing  of  live  stock; 
and 

Provided,  further.  That  such  bUls  comply  in  all  other  respects  with 
each  and  every  provision  of  Regulation  B  (above). 

229.  TRADE  ACCEPTANCES^ 

I.      DEFINITION 

In  this  regulation  the  term  "trade  acceptance"  is  defined  as  a 
bill  of  exchange  of  the  character  hereinafter  described,  drawn  to  order, 
having  a  definite  maturity  and  payable  in  dollars  in  the  United  States, 
the  obligation  to  pay  which  has  been  accepted  by  an  acknowledgment, 
written  or  stamped  and  signed  across  the  face  of  the  instrument  by 
the  company,  firm,  corporation,  or  person  upon  whom  it  is  drawn; 
such  agreement  to  be  to  the  effect  that  the  acceptor  will  pay  at 
maturity,  according  to  its  tenor,  such  draft  or  bill  without  qualifying 
conditions. 

II.      CHARACTER   OF   PAPER   ELIGIBLE 

A  trade  acceptance  to  be  eligible  for  rediscount,  .under  section  13, 
with  a  Federal  Reserve  Bank  at  the  rate  to  be  established  for  trade 
acceptances — 

c)  Must  be  indorsed  by  a  member  bank,  accompanied  by  waiver  of 
demand  notice  and  protest. 

b)  Must  have  a  maturity  at  the  time  of  discount  of  not  more  than  90 
days. 

c)  Must  be  accepted  by  the  purchaser  of  goods  sold  to  him  by  the 
drawer  of  the  bill,  and  the  bill  must  have  been  drawn  against  indebtedness 
expressly  incurred  by  the  acceptor  in  the  purchase  of  such  goods. 

'Regulation  C,  January  25,  1915. 

'Adapted  from  Federal  Reserve  Board,  Circular  No.  16,  ]\i\y  15,  1915. 


470  PKixciPLKS  or  mon1-:y  and  banking 

III.      MKTIIOU   OF   CERTIFYING  ELIGIBILITY 

A  trade  acceptance  must  l^ear  on  its  face  or  be  accompanied  by 
evidence  in  form  satisfactory  to  the  Federal  Reserve  Bank  that  it 
was  drawn  by  the  seller  of  the  goods  on  the  j)urchaser  of  such  goods. 
Such  evidence  may  consist  of  a  certificate  on  or  accompanying  the 
acceptance,  to  the  following  effect:  "The  obligation  of  the  acceptor 
of  this  bill  arises  out  of  the  i)urchase  of  goods  from  the  drawer." 
Such  certificate  may  be  accepted  by  the  Federal  Reserve  Bank  as 
sufficient  evidence;  provided,  however,  that  the  Federal  Reserve 
Bank,  in  its  discretion,  may  inquire  into  the  exact  nature  of  the 
transaction  underlying  the  acceptance. 

230.     THE  ADVANTAGES  OF  THE  TRADE  ACCEPTANCE' 

There  can  be  no  question  of  the  desirability  of  developing  trade 
acceptances  in  the  United  States  in  the  interests^  of  banking,  com- 
merce, and  industry.  In  all  modern  banking  systems  the  acceptance 
is  the  most  desirable  form  of  investment,  and  it  is  the  most  satisfactory 
method  of  settlement  in  the  business  world. 

The  directors  of  the  National  Association  of  Credit  IVIen  have 
recorded  their  belief  "that  trade  acceptances  present  conveniences 
and  economies  which  should  appeal  to  the  encouragement  and  sup- 
port of  commercial  credit  grantors,"  and  that  "the  trade  acceptance 
system  would  eliminate  certain  serious  evils  which  have  developed 
with  the  increase  of  commercial  credits  on  an  open-account  system, 
and  of  which  the  unearned  discounts,  the  abuse  of  sales  terms,  and 
the  assignment  of  accounts  receivable  are  the  more  prominent." 

Acceptance  is  of  benefit  to  the  seller  of  goods  in  a  great  many 
ways,  among  which  the  following  are  noteworthy: 

1.  It  completes  the  transaction,  joining  the  payment  with  the 
shipment  or  invoice. 

2.  It  eliminates  open  book  accounts,  and  substitutes  bills  receiv- 
able, or  actual  cash  from  discounted  bills,  in  the  assets  of  the  seller. 

3.  It  gives  to  the  seller  additional  credit  facilities,  in  that  such 
business  paper  discounted  does  not  necessarily  count  in  the  amount 
of  credit  extended  or  authorized. 

4.  By  reason  of  its  "double-name"  aspect  it  has  a  broader  and 
better  market,  and  lessens  interest  rates  for  the  seller. 

5.  It  assures  promptness  and  avoids  unjustified  extensions. 

'  Adapted  from  Federal  Reserve  Bulletin,  IMarch,  1916,  pp.  loo-ioi. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS         471 

6.  It  promotes  economy  and  efficiency  of  operation  by  establishing 
co-operation. 

Acceptances  are  advantageous  to  the  purchaser  (i)  in  eUminating 
open  accounts;  (2)  in  closing  the  transaction  at  the  time  of  purchase; 
(3)  in  providing  pa^Tnent  coincident  with  purchase;  (4)  in  facilitating 
adjustments  and  settlements. 

C.     Financial  Concentration  and  Control 

231.    OUR  FINANCIAL  OLIGARCHY' 
By   LOUIS   I).   liRANDEIS 

The  dominant  element  in  our  financial  oligarchy  is  the  in\cstmcnt 
banker.  Associated  banks,  trust  companies,  and  life  insurance  com- 
panies are  his  tools.  Controlled  railroads,  public-service  and  indus- 
trial corporations  are  his  subjects.  Though  properly  but  middlemen, 
these  bankers  bestride  as  masters  America's  business  world,  so  that 
practically  no  large  enterprise  can  be  undertaken  successfully  without 
their  participation  or  approval.  These  bankers  are,  of  course,  able 
men  possessed  of  large  fortunes;  but  the  most  potent  factor  in  their 
control  of  business  is  not  the  possession  of  extraordinary  ability  or 
huge  wealth.  The  key  to  their  power  is  combination — concentration, 
intensive  and  comprehensive — advancing  on  three  distinct  lines: 

First:  There  is  the  obvious  consolidation  of  banks  and  trust 
companies;  the  less  obvious  affiliations — through  stock  holdings,  vot- 
ing trusts,  and  interlocking  directorates — of  banking  institutions 
which  are  not  legally  connected;  and  the  joint  transactions,  gentle- 
men's agreements,  and  "banking  ethics"  which  eliminate  competition 
among  the  investment  bankers. 

Second:  There  is  the  consolidation  of  railroads  into  huge  systems, 
the  large  combinations  of  public-service  corporations  and  the  forma- 
tion of  industrial  trusts,  which,  by  making  businesses  so  "big"  that 
local,  independent  banking  concerns  cannot  alone  supply  the  necessary 
funds,  has  created  dependence  upon  the  associated  New  York  bankers. 

But  combination,  however  intensive,  along  these  lines  only  could 
not  have  produced  the  Money  Trust;  another  and  more  potent  factor 
of  combination  was  added. 

Third:  Investment  bankers,  like  J.  P.  Morgan  &  Co.,  dealers  in 
bonds,  stocks,  and  notes,  encroached  upon  the  functions  of  the  three 

'  Adapted  from  Other  People's  Money,  and  How  the  Bankers  Use  It,  pp.  4-22. 
(Frederick  .\.  Stokes  Co.,  1914.    Originally  i)ul)lisliccl  in  IIiirf>ir's  Weekly.) 


472  PRINCIPLES  OF  MONEY  AND  BANKING 

Other  classes  of  corporations  with  which  their  business  brought  them 
into  contact.  They  became  the  directing  power  in  railroads,  public- 
service  and  industrial  companies  through  which  our  great  business 
operations  are  conducted — the  makers  of  bonds  and  stocks.  They 
became  the  directing  power  in  the  life  insurance  companies  and  other 
corporate  reservoirs  of  the  people's  savings — the  buyers  of  bonds  and 
stocks.  They  became  the  directing  power  also  in  banks  and  trust 
companies — the  depositaries  of  the  quick  capital  of  the  country — the 
life-blood  of  business,  with  which  they  and  others  carried  on  their 
operations.  Thus  four  distinct  functions,  each  essential  to  business, 
and  each  exercised,  originally,  by  a  distinct  set  of  men,  became  united 
in  the  investment  banker.  It  is  to  this  union  of  business  functions 
that  the  existence  of  the  Money  Trust  is  mainly  due. 

The  investment  bankers  were  not  content  merely  to  deal  in 
securities,  enormous  as  was  that  field  in  itself.  They  desired  to 
manufacture  them  also.  They  became  promoters,  or  allied  themselves 
with  promoters.  Thus  it  was  that  J.  P.  Morgan  &  Co.  formed  the 
Steel  Trust,  the  Harvester  Trust,  and  the  Shipping  Trust.  And, 
adding  the  duties  of  undertaker  to  those  of  midwife,  the  investment 
bankers  became,  in  times  of  corporate  disaster,  members  of  security- 
holders' "Protective  Committees";  then  they  participated  as  "Reor- 
ganization Managers"  in  the  reincarnation  of  the  unsuccessful 
corporations,  and  ultimately  became  directors.  It  was  in  this  wa}' 
that  the  Morgan  associates  acquired  their  hold  upon  the  Southern  Rail- 
way, the  Northern  Pacific,  the  Reading,  the  Erie,  the  Pere  ISIarquette, 
the  Chicago  &  Great  Western,  and  the  Cincinnati,  Hamilton  &  Day- 
ton, Often  they  insured  the  continuance  of  such  control  by  the 
device  of  the  voting  trust;  but  even  where  no  voting  trust  was 
created  a  secure  hold  was  acquired  upon  reorganization.  It  was  in 
this  way  also  that  Kuhn,  Loeb  &  Co.  became  potent  in  the  Union 
Pacific  and  in  the  Baltimore  &  Ohio. 

But  the  banker's  participation  in  the  management  of  corporations 
was  not  limited  to  cases  of  promotion  or  reorganization.  An  urgent  or 
extensive  need  of  new  money  was  considered  a  sufficient  reason  for 
the  banker's  entering  a  board  of  directors.  Often  without  even  such 
excuse  the  investment  banker  has  secured  a  place  upon  the  Board  of 
Directors  through  his  powerful  influence  or  the  control  of  his  cus- 
tomers' proxies.  Such  seems  to  have  been  the  fatal  entrance  of  Mr. 
Morgan  into  the  management  of  the  then  prosperous  New  York, 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        473 

New  Haven  &  Hartford  Railroad  in  1892.  When  once  a  banker  has 
entered  the  Board — whatever  may  have  been  the  occasion — his  grip 
proves  tenacious  and  his  influence  usually  supreme,  for  he  controls 
the  supply  of  new  money. 

The  investment  banker  is  naturally  on  the  lookout  for  good 
bargains  in  bonds  and  stocks.  Like  other  merchants,  he  wants  to 
buy  his  merchandise  cheap.  But  when  he  becomes  director  of  a 
corporation  he  occupies  a  position  which  prevents  the  transaction 
by  which  he  acquires  its  corporate  securities  from  being  properly 
called  a  bargain.  Can  there  be  real  bargaining  where  the  same  man 
is  on  both  sides  of  a  trade?  The  investment  banker,  through  his 
controlling  influence  on  the  Board  of  Directors,  decides  that  the  cor- 
poration shall  issue  and  sell  the  securities,  decides  the  price  at  which 
it  shall  sell  them,  and  decides  that  it  shall  sell  the  securities  to  himself. 
The  fact  that  there  are  other  directors  besides  the  banker  on  the 
Board  does  not,  in  practice,  prevent  this  being  the  result.  The 
banker,  who  holds  the  purse  strings,  becomes  usually  the  dominant 
spirit.  Through  voting  trusteeships,  exclusive  financial  agencies, 
membership  on  executive  or  fmance  committees,  or  by  mere  director- 
ships, J.  P.  Morgan  &  Co.  and  their  associates  held  such  financial 
power  in  at  least  32  transportation  systems,  public-utility  corpora- 
tions, and  industrial  companies — companies  with  an  aggregate  capital- 
ization of  $17,273,000,000,  Mainly  for  corporations  so  controlled 
J.  P.  Morgan  &  Co.  procured  the  public  marketing  in  ten  years  of 
security  issues  aggregating  $1,950,000,000.  This  huge  sum  does  not 
include  any  issues  marketed  privately,  nor  any  issues,  however 
marketed,  of  intrastate  corporations.  Kuhn,  Loeb  &  Co.  and  a  few 
other  investment  bankers  exercise  similar  control  over  many  other 
corporations. 

Such  control  of  railroads,  public-service  and  industrial  corpora- 
tions assures  to  the  investment  bankers  an  ample  supply  of  securities 
at  attractive  prices;  and  merchandise  well  bought  is  half  sold.  But 
these  bond  and  stock  merchants  arc  not  disposed  to  take  even  a  slight 
risk  as  to  their  ability  to  market  their  goods.  They  saw  that  if  they 
could  control  the  security-buyers,  as  well  as  llie  security-makers, 
investment  would,  indeed,  l)e  "a  happy  hunting-ground'';  and  they 
have  made  it  so. 

The  numerous  small  investors  cannot,  in  the  strict  sense,  be 
controlled;    but  their  dependence  upon   the  bankers  insures  their 


474  PRINCIPLES  OF  MONEY  AND  HANKING 

being  duly  influenced.  A  large  part,  however,  of  all  bonds  issued 
and  of  many  stocks  are  bought  by  the  prominent  corporate  investors; 
and  most  prominent  among  these  are  the  life  insurance  companies, 
the  trust  companies,  and  the  banks.  The  purchase  of  a  security  by 
these  institutions  not  only  relieves  the  banker  of  the  merchandise, 
but  recommends  it  strongly  to  the  small  investor,  who  believes  that 
these  institutions  are  wisely  managed.  These  controlled  corporate 
investors  are  not  only  large  customers,  but  may  be  particularly 
accommodating  ones.  Individual  investors  are  moody.  They  buy 
only  when  they  want  to  do  so.  They  are  sometimes  inconveniently 
reluctant.  Corporate  investors,  if  controlled,  may  be  made  to 
buy  when  the  bankers  need  a  market.  It  was  natural  that  the 
investment  bankers  proceeded  to  get  control  of  the  great  life 
insurance  companies,  as  well  as  of  the  trust  companies  and  the 
banks. 

The  goose  that  lays  golden  eggs  has  been  considered  a  most 
valuable  possession.  But  even  more  profitable  is  the  privilege  of 
taking  the  golden  eggs  laid  by  somebody  else's  goose.  The  invest- 
ment bankers  and  their  associates  now  enjoy  that  privilege.  They 
control  the  people  through  the  people's  own  money.  If  the  bankers' 
power  were  commensurate  only  with  their  wealth,  they  would  have 
relatively  little  influence  on  American  business.  Vast  fortunes  like 
those  of  the  Astors  are  no  doubt  regrettable.  They  are  inconsistent 
with  democracy.  They  are  unsocial.  And  they  seem  particularly 
unjust  when  they  represent  largely  unearned  increment.  But  the 
wealth  of  the  Astors  does  not  endanger  poUtical  or  industrial  liberty. 
It  is  insignificant  in  amount  as  compared  with  the  aggregate  wealth  of 
America,  or  even  of  New  York  City.  It  lacks  significance  largely 
because  its  owners  have  only  the  income  from  their  own  wealth. 
The  Astor  wealth  is  static.  The  wealth  of  the  Morgan  associates  is 
dynamic.  The  power  and  the  growth  of  power  of  our  financial 
oUgarchs  come  from  wielding  the  savings  and  quick  capital  of  others. 
In  two  of  the  three  great  life  insurance  companies  the  influence  of 
J.  P.  Morgan  &  Co.  and  their  associates  is  exerted  without  any 
individual  investment  by  them  whatsoever.  Even  in  the  Equitable, 
where  Mr.  Morgan  bought  an  actual  majority  of  all  the  outstanding 
stock,  his  investment  amounts  to  little  more  than  one-half  of  i  per 
cent  of  the  assets  of  the  company.  The  fetters  which  bind  the  people 
are  forged  from  the  people's  own  gold. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        475 

But  the  reservoir  of  other  people's  money,  from  which  the  invest- 
ment bankers  now  draw  their  greatest  power,  is  not  the  Ufe  insurance 
companies,  but  the  banks  and  trust  companies.  Bank  deposits  repre- 
sent the  really  quick  capital  of  the  nation.  They  are  the  life-blood 
of  businesses.  Their  effective  force  is  much  greater  than  that  of  an 
equal  amount  of  wealth  permanently  invested.  The  34  banks  and 
trust  companies  which  the  Pujo  Committee  declared  to  be  directly 
controlled  by  the  Morgan  associates  held  $1,983,000,000  in  deposits. 
Control  of  these  institutions  means  the  ability  to  lend  a  large  part  of 
these  funds,  directly  and  indirectly,  to  themselves,  and,  what  is  often 
even  more  important,  the  power  to  prevent  the  funds  being  lent  to 
any  rival  interests.  These  huge  deposits  can,  in  the  discretion  of  those 
in  control,  be  used  to  meet  the  temporary  needs  of  their  subject 
corporations.  When  bonds  and  stocks  are  issued  to  finance  perma- 
nently these  corporations,  the  bank  deposits  can,  in  large  part,  be 
loaned  by  the  investment  bankers  in  control  to  themselves  and  their 
associates,  so  that  securities  bought  may  be  carried  by  them  until 
sold  to  investors.  Or  these  bank  deposits  may  be  loaned  to  allied 
bankers,  or  jobbers  in  securities,  or  to  speculators,  to  enable  them  to 
carry  the  bonds  or  stocks.  Easy  money  tends  to  make  securities  rise 
in  the  market.  Tight  money  nearly  always  makes  them  fall.  The 
control  by  the  leading  investment  bankers  over  the  banks  and  trust 
companies  is  so  great  that  they  can  often  determine,  for  a  time,  the 
market  for  money  by  lending  or  refusing  to  lend  on  the  stock  exchange. 
In  this  way,  among  others,  they  have  power  to  affect  the  general 
trend  of  prices  in  bonds  and  stocks.  Their  power  over  a  particular 
security  is  even  greater.  Its  sale  on  the  market  may  depend  upon 
whether  the  security  is  favored  or  discriminated  against,  when  offered 
to  the  bank  and  trust  companies,  as  collateral  for  loans. 

Furthermore,  it  is  the  investment  banker's  access  to  other  people's 
money  in  controlled  banks  and  trust  companies  which  alone  enables 
any  individual  banking  concern  to  take  so  large  a  part  of  the  annual 
output  of  bonds  and  stocks.  The  banker's  own  capital,  however  large, 
would  soon  be  exhausted.  And  even  the  loanable  funds  of  the  banks 
would  often  l^c  exhausted  but  for  the  large  deposits  made  in  those 
banks  by  the  life  insurance,  railroad,  public-ser\ice,  and  industrial 
corporations  which  the  bankers  also  control. 

But  the  power  of  tlie  investment  banker  over  other  people's 
money  is  often  more  direct  and  effective  than  that  exerted  through 


476  PRINCIPLES  OF  MONEY  AND  liANKING 

controlled  banks  and  trust  companies.  J.  P.  Morgan  &  Co.  achieve 
the  supposedly  impossible  feat  of  having  their  cake  and  eating  it  too. 
They  buy  the  bonds  and  stocks  of  controlled  railroads  and  industrial 
concerns,  and  pay  the  purchase  price,  and  still  do  not  part  with  their 
money.  This  is  accomplished  by  the  simple  device  of  becoming  the 
bank  of  deposit  of  the  controlled  corporations  instead  of  having  the 
company  deposit  in  some  merely  controlled  bank  in  whose  operations 
others  have  at  least  some  share.  When  J.  P.  Morgan  &  Co.  buy  an 
issue  of  securities,  the  purchase  money,  instead  of  being  paid  over  to 
the  corporation,  is  retained  by  the  banker  for  the  corporation,  to  be 
drawn  upon  only  as  the  funds  are  needed  by  the  corporation.  And 
as  the  securities  are  issued  in  large  blocks,  and  the  money  raised  is 
often  not  all  spent  until  long  thereafter,  the  aggregate  of  the  balances 
remaining  in  the  banker's  hands  are  huge.  Thus  J.  P.  Morgan  &  Co. 
(including  their  Philadelphia  house,  called  Drexel  &  Co.)  held  on 
November  i,  1912,  deposits  aggregating  $162,491,819.65. 

232.    THE  SATELLITES  OF  THE  "MONEY  TRUST'" 
By  the   PUJO   COMMITTEE 

Beyond  these  inner  groups  and  subgroups  are  banks  and  bankers 
throughout  the  country  who  co-operate  with  them  in  underwTiting 
or  guaranteeing  the  sale  of  the  securities  offered  to  the  public,  and  who 
also  act  as  distributors  of  such  securities.  It  was  impossible  to  learn 
the  identity  of  the  corporations,  owing  to  the  unwiUingness  of  the 
members  of  the  inner  group  to  disclose  the  names  of  their  under- 
writers, but  sufficient  appears  to  justify  the  statement  that  there  are 
at  least  hundreds  of  them  and  that  they  extend  into  many  of  the  cities 
throughout  this  and  foreign  countries. 

The  patronage  thus  proceeding  from  the  inner  group  and  its 
subgroups  is  of  great  value  to  these  banks  and  bankers,  who  are 
thus  tied  by  self-interest  to  the  great  issuing  houses  and  may  be 
regarded  as  a  part  of  this  vast  financial  organization.  Such  patronage 
yields  no  inconsiderable  part  of  the  income  of  these  banks  and  bankers 
without  much  risk  on  account  of  the  facilities  of  the  principal  groups 
for  placing  issues  of  securities  through  their  domination  of  great 
banks  and  trust  companies  and  their  other  domestic  affiliations  and 

'  Adapted  from  Report  of  the  Committee  Appointed  to  Investigate  the  Con- 
centration of  Control  of  Money  and  Credit,  62d  Cong.,  3d  sess.,  No.  1593,  pp. 
132-33- 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        477 

their  foreigA  connections.  The  underwriting  commissions  on  issues 
made  by  this  inner  group  are  easily  earned  and  do  not  ordinarily 
involve  the  underwTiters  in  the  purchase  o£  the  underwTitten  securities. 
Their  interest  in  the  transaction  is  generally  adjusted,  unless  they 
choose  to  purchase  part  of  the  securities,  by  the  pa\Tnent  to  them  of  a 
commission.  There  are,  however,  occasions  on  which  this  is  not  the 
case.  The  underwriters  are  then  required  to  take  the  securities. 
Bankers  and  brokers  are  so  anxious  to  be  permitted  to  participate  in 
these  transactions  under  the  lead  of  the  inner  group  that  as  a  rule 
they  join  when  invited  to  do  so,  regardless  of  their  approval  of  the 
particular  business,  lest  by  refusing  they  should  thereafter  cease  to 
be  invited. 

In  the  case  of  the  New  York  subway  financing  of  $170,000,000 
of  bonds  by  Messrs.  Morgan  &  Co.  and  their  associates,  Mr.  Davison 
estimated  that  there  were  100  to  125  such  undervNTiters  who  were 
apparently  glad  to  agree  that  Messrs.  Morgan  &  Co.,  the  First 
National  Bank,  and  the  National  City  Bank  should  receive  3  per 
cent,  equal  to  $5,100,000,  for  forming  this  syndicate,  thus  reheving 
themselves  from  all  liability,  whilst  the  underwriters  assumed  the 
risk  of  what  the  bonds  would  realize  and  of  being  required  to  take 
their  share  of  the  unsold  portion. 

The  possibihty  of  competition  between  these  banking  houses  in 
the  purchase  of  securities  is  further  removed  by  the  understanding 
between  them  and  others  that  one  will  not  seek,  by  offering  better 
terms,  to  take  away  from  another  a  customer  which  it  has  heretofore 
served,  and  by  corollary  of  this,  namely,  that  where  given  bankers 
have  once  satisfactorily  united  in  bringing  out  an  issue  of  a  corpora- 
tion they  shall  also  unite  in  bringing  out  any  subsequent  issue  of  the 
same  corporation.     This  is  described  as  a  principle  of  banking  ethics. 

233.    THE  DEFENSE  OF  FINANCIAL  CONCENTRATION' 
By  J.  P.  MORGAN  &  CO. 

We  venture  to  point  out  that  such  "concentration"  as  has  taken 
place  in  New  York  and  other  financial  centers  has  been  due,  not  to 
the  purpose  and  activities  of  men,  but  primarily  to  the  operation  of 
our  antiquated  banking  system,  which  automatically  compels  interior 
banks  to  "concentrate"  in  New  York  City  hundreds  of  millions  of 

'  Adapted  from  a  letter  in  response  to  the  invitation  of  the  Pujo  Committee, 
February  25,  1913,  pp.  3-26. 


478  PRINCIPLES  OF  MONEY  AND  BANKING 

reserve  funds,  and,  next,  to  economic  laws  which  in  every  country 
create  some  one  city  as  the  great  financial  center,  and  which  draw  to 
it,  in  enormous  volume,  investment  funds  for  the  development  of 
industrial  enterprises  throughout  the  country. 

Just  as  grain  and  cotton  and  manufactures  are  commodities  sub- 
ject to  the  unchanging  laws  of  supply  and  demand,  so,  in  the  same  way, 
money  and  credits  are  commodities  subject  to  the  same  unvarying 
laws,  but  far  more  intensely;  for  while  bulky  merchandise  is  not 
always  immediately  transferable  upon  demand,  money  and  credits 
are  so  liquid  as  to  be  transferable  by  telegraph  all  over  the  world. 
Since  the  beginning  of  organized  industry  and  commerce  covering  more 
than  two  centuries  in  England,  France,  and  Germany  and  one  hun- 
dred years  in  America,  men  never  yet  have  succeeded  in  overriding 
economic  law;  and,  further,  such  an  achievement  is  impossible,  even 
though  one  were  wiUing  to  attribute  sinister  motives  to  the  leading 
men  of  business  in  the  chief  cities  of  this  country. 

In  the  preamble  to  the  House  Resolution  under  which  your 
Committee  acts  we  find  this  statement:  "Whereas  it  has  been  fur- 
ther charged  and  is  generally  believed  [the  italics  are  our  own]  that 
these  same  groups  of  financiers  are  enabled  to  regulate  the  interest 
rates  for  money,  to  create,  avert,  and  compose  panics,  etc."  The 
factors  which  determine  interest  rates  are  not  local  in  their  source, 
but  are  world-wide,  being  determined  and — owing  to  the  freedom  of 
international  exchange — being  regulated  by  the  average  demand  for 
credit  throughout  the  world's  money  markets.  If  any  man  or  group 
of  men  had  the  ability  and  resources — which  they  have  not — to  with- 
hold credits  in  any  one  market,  like  New  York,  the  situation  would 
ordinarily  be  promptly  relieved  by  the  automatic  inflow  of  credits 
from  some  altogether  foreign  source. 

We  regret  that  a  belief  so  incredible,  so  abhorrent,  and  so  harmful 
to  the  country  as  that  the  panic  of  1907  was  actually  due  to  the 
machinations  of  certain  powerful  men  should  for  a  moment  have 
found  lodgment  anywhere. 

No  one  will  deny  that  men  frequently  are  selfish,  ambitious,  and 
reckless,  but  in  order  to  sustain  the  theory  that  the  panic  of  IQ07 
was  "engineered"  one  must  attribute  some  motive  for  their  assumed 
achievements.  And  by  no  process  of  reasoning  can  such  motive  be 
imagined,  because  of  the  fact  that  men  possessing  even  a  fraction  of 
the  influence  and  resources  attributed  to  them  always  are  the  ones 
holding  the  largest  amounts  of  fixed  investments  which,  by  disturbed 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        479 

financial  conditions,  always  suffer  most  severely.  It  is  impossible, 
therefore,  to  imagine  a  motiv'e  on  the  part  of  such  persons  as  would 
lead  to  a  campaign  of  self-destruction. 

The  resolution  under  which  your  Committee  acts  further  states 
that  a  comparatively  small  group  of  men  "have  wielded  a  power 
over  the  business,  commerce,  credits,  and  finances  of  the  country 
that  is  despotic  and  perilous  and  is  daily  becoming  more  perilous  to 
the  public  welfare." 

For  the  maintenance  of  such  an  impossible  economic  theory  there 
have  been  spread  before  your  Committee  elaborate  tables  of  so-called 
interlocking  directorates  from  which  exceedingly  mistaken  inferences 
have  been  publicly  drawn.  In  these  tables  it  is  shown  that  iSo 
bankers  and  bank  directors  serve  upon  the  boards  of  corporations 
having  resources  aggregating  twenty-five  billion  dollars,  and  it  is 
implied  that  this  vast  aggregate  of  the  country's  wealth  is  at  the 
disposal  of  these  180  men.  But  such  an  implication  rests  solely  upon 
the  untenable  theory  that  these  men,  living  in  different  parts  of  the 
country,  in  many  cases  personally  unacquainted  with  each  other,  and 
in  most  cases  associated  only  in  occasional  transactions,  vote  always 
for  the  same  policies  and  control  with  united  purpose  the  directorates 
of  the  132  corporations  on  which  they  serve.  The  testimony  failed  to 
establish  any  concerted  policy  or  harmony  of  action  binding  these 
180  men  together,  and  as  a  matter  of  fact  no  such  poUcy  exists.  The 
absurdity  of  the  assumption  of  such  control  becomes  more  apparent 
when  one  considers  that  on  the  average  these  directors  represent 
only  one-quarter  of  the  memberships  of  their  boards.  It  is  prepos- 
terous to  suppose  that  every  "interlocking"  director  has  full  control 
in  every  organization  with  which  he  is  connected,  and  that  the  ma- 
jority of  directors  who  are  not  "interlocking"  are  mere  figureheads, 
subject  to  the  will  of  a  small  minority  of  their  boards. 

Perhaps  the  greatest  harm  in  the  presentation  referred  to  lay  in 
the  further  unwarranted  inference,  to  which  has  been  given  wide 
publicity,  that  the  vast  sum  of  $25,000,000,000  was  in  cash  or  liquid 
form,  subject  to  the  selfish  use  or  abuse  of  individuals.  Such  an  idea 
excites  the  public  mind  to  demand  the  correction  of  a  fancied  situation 
which  does  not  exist. 

The  steady  growth  in  the  size  of  banks  in  New  York  and  Chicago 
and  the  frequent  merger  of  two  or  more  banks  into  one  institution 
have  erroneously  been  designated  before  your  Committee  as  "con- 
centration."   This  steady  growth  and  these  mergers,  however,  are  a 


48o  PRINCIPLES  OF  MONEY  AND  BANKING 

development  due  simply  to  the  demand  for  larger  banking  facilities 
to  care  for  the  growth  of  the  country's  business.  As  our  cities  double 
and  treble  in  size  and  importance,  as  railroads  extend  and  industrial 
plants  expand,  not  only  is  it  natural,  but  it  is  necessary,  that  our 
banking  institutions  should  grow  in  order  to  care  for  the  increased 
demands  put  upon  them.  Perhaps  it  is  not  known  as  well  as  it  should 
be  that  in  New  York  City  the  largest  banks  are  far  inferior  in  size 
to  banks  in  the  commercial  capitals  of  other  and  much  smaller  coun- 
tries. The  largest  bank  in  New  York  City  today  has  resources 
amounting  to  only  three-fifths  of  the  resources  of  the  largest  bank 
in  England,  to  only  one-fourth  of  the  resources  of  the  largest  bank  in 
France,  and  to  less  than  one-fifth  of  the  resources  of  the  largest  bank 
in  Germany,  As  the  Committee  is  aware,  in  New  York  City  there 
are  only  three  banks  with  resources  in  excess  of  $200,000,000,  while 
there  are  ten  such  institutions  in  London,  five  in  BerHn,  and  four 
in  Paris. 

It  is  also  perhaps  not  sufi&ciently  recognized  that,  even  as  it  is, 
American  banks  have  not  fully  kept  pace  with  the  development 
of  American  business.  Hundreds  of  the  financial  transactions  of 
today  are  so  large  that  no  single  bank  commands  sufficient  resources 
to  handle  them.  This  is  especially  true  with  respect  to  the  great 
public  utilities  which  are  essential  for  the  development  and  welfare 
of  the  community.  Even  our  largest  banks  are  seldom  able  separately 
to  extend  the  credit  which  such  undertakings  require,  no  one  national 
bank  being  permitted  by  law  to  loan  in  excess  of  10  per  cent  of  its 
capital  and  surplus  to  any  one  individual  or  concern.  When  it  is 
remembered  that  literally  hundreds  of  corporations  in  this  country 
are  now  obliged  to  borrow  annually  sums  of  a  milUon  dollars  and 
upward  apiece,  it  is  obvious  that  the  size  of  our  banks  must  grow  to 
keep  pace  with  this  demand. 

Likewise,  with  respect  to  the  tendency  to  co-operation  among 
banks,  noted  especially  since  the  panic  of  1907,  we  beHeve  that 
further  statistics  of  interest  on  this  point  can  be  made  available,  such 
facts  going  to  show,  first,  that  since  1907  co-operation  has  been  more 
active  by  reason  of  the  lesson  which  banks  in  all  large  cities  then 
learned,  that,  for  self-preservation,  they  could  not — as  is  possible  in 
other  countries — rely  upon  a  strong  and  elastic  banking  system,  but 
must  gain  such  protection  by  concurrent  action;  and,  second,  that  such 
co-operation  is  simply  a  further  result  of  the  necessity  for  handling 
great  transactions.    There  are  not  a  few  railroad  bond  issues  each 


THE  INTERRKLATIONS  OF  FINANCL\L  OPERATIONS        481 

exceeding  $100,000,000;  the  American  Telephone  and  Telegraph  Co. 
recently  has  announced  one  of  $70,000,000.  The  two  traction  com- 
panies operating  the  subways  in  Greater  New  York  are  planning  to 
bring  out  aggregate  issues  of  $220,000,000.  The  Attorney-General's 
recent  approval  of  the  Union  Pacific  settlement  calls  for  a  single 
commitment  on  the  part  of  bankers  of  $126,000,000.  So  that,  if 
transactions  of  such  magnitude  are  to  be  carried  on,  the  country 
obviously  requires,  not  only  the  larger  individual  banks,  but  demands 
also  that  those  banks  shall  co-operate  to  perform  efficiently  the 
country's  business.  A  step  backward  along  this  line  would  mean  a 
halt  in  industrial  progress  that  would  affect  every  wage-earner  from 
the  Atlantic  to  the  Pacific. 

We  lay  perhaps  especial  stress  upon  this  point,  because  of  what 
seemed  to  us  a  readiness  upon  the  part  of  your  Committee  to  adopt 
the  idea  that  in  such  co-operation  by  bankers  there  lies  the  germ  of 
something  sinister  and  dangerous,  and  that,  to  quote  once  more  from 
House  Resolution  No.  504,  such  co-operation  has  been  developed  to 
the  extent  that  "these  groups  of  individuals"  can  "prevent  compe- 
tition with  the  enterprises  in  which  they  are  interested,  to  the  detri- 
ment of  interstate  commerce  and  of  the  general  pubHc."  So  far  as 
our  observation  and  experience  go,  we  can  make  the  positive  statement 
that,  except  under  unfavorable  money-market  conditions,  we  have 
never  heard  of  any  responsible  and  deserving  individual,  firm,  or 
corporation  being  unable  to  secure  ample  credit. 

Many  questions  were  asked  before  your  Committee  as  to  the 
wisdom  in  having  representatives  of  private  banking  houses  sit  upon 
the  boards  of  corporations  whose  securities  the  same  bankers  fre- 
quently offer  for  sale.  This  practice,  which  has  been  in  vogue  abroad 
ever  since  the  creation  of  limited  companies,  has  arisen,  not  from  a 
desire  on  the  part  of  the  banker  to  manage  the  daily  affairs  of  the 
corporation  or  to  purchase  its  securities  more  cheaply  than  he  other- 
wise could,  but  rather  because  of  his  moral  responsibility  as  sponsor 
of  the  corporation's  securities,  to  keep  an  eye  upon  its  policies  and 
to  protect  the  interests  of  investors  in  the  securities  of  that  corpora- 
tion. For  a  private  banker  to  sit  upon  such  a  directorate  is  in  most 
instances  a  duty,  not  a  privilege.  Inquiry  will  readily  develop  the 
fact  that  the  members  of  the  leading  banking  houses  in  tliis  countr\ — 
and  it  was  the  leading  houses  only  against  which  animadversions 
were  directed — are  besought  continually  to  act  as  directors  in  various 
corporations,  whose  securities  they  may  handle,  and  that  in  general 


482  PRINCIPLES  OF  MONEY  AND  BANKING 

they  enter  only  those  boards  which  the  opinion  of  the  investing  public 
requires  them  to  enter,  as  an  evidence  of  good  faith  that  they  are 
willing  to  have  their  names  publicly  associated  with  the  management. 

Yet,  before  your  Committee,  this  natural  and  eminently  desirable 
relationship  was  made  to  appear  almost  sinister,  and  no  testimony 
whatever  was  adduced  to  show  the  actual  working  of  such  relation- 
ships. It  is  easy  to  overlook  the  fact  that  practically  all  the  railroad 
and  industrial  development  of  this  country  has  taken  place,  initially, 
through  the  medium  of  the  great  banking  houses.  Were  it  not  for 
the  opportunities  provided  by  these  houses,  it  is  difficult  to  imagine 
how  the  great  transportation  systems  and  industrial  plants  of  the 
country  could  have  been  created. 

Another  line  of  your  inquiry,  certainly  pertinent  to  the  general 
subject,  was  as  to  whether  "the  marketing  of  the  securities  that 
from  time  to  time  have  been  issued  by  interstate  railroads  and  indus- 
trial corporations  has  been  by  competitive  bidding  or  otherwise."  On 
this  matter  we  are  pleased  to  submit  certain  considerations  which, 
we  are  confident,  are  borne  out  by  the  facts:  First,  in  general  and 
over  a  period  of  time  the  sale  of  such  securities  is  invariably  subject 
to  the  competition  of  market  conditions.  We  have  not  heard  of  an 
instance  where  any  corporation  failed  to  secure  the  benefit  of  a  price 
for  its  issues  as  excellent  as  conditions  at  the  time  warranted.  Sec- 
ond, in  most  of  the  leading  commercial  securities  state  public-service 
commissions  pass  with  great  care  upon  the  prices  at  which  the 
securities  of  all  transportation  and  public-utility  corporations  are 
sold.  Third,  competitive  bidding,  in  the  sense  of  having  railroad  and 
industrial  securities  ofifered  practically  at  public  auction,  as  in  the 
case  of  municipal  securities,  is  seldom  or  never  practiced. 

The  reasons  against  such  practice  are  plain.  Such  corporate 
issues  have  neither  the  security,  the  steadiness,  nor  the  general  con- 
fidence possessed  by  municipal  bonds,  and  while  in  good  times  it 
is  possible  that  they  might  be  subscribed  for  at  public  auction,  in 
bad  times  there  would  be  no  one  to  bid  for  them.  It  is  practically 
inconceivable  that  a  municipality  should  go  bankrupt  and  make 
permanent  default  of  its  obligations.  Quite  otherwise  is  the  case 
with  railroad  or  industrial  corporations.  Should  these  latter  appeal 
directly  to  the  proverbially  timid  investor,  there  can  be  little  question 
that  in  times  of  stress  support  would  be  totally  lacking.  We  should 
have  the  spectacle  of  numberless  corporations  failing  for  lack  of  strong 
financial  or  banking  support. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS        483 

Still  another  consideration  inducing  large  corporations  to  appoint 
fiscal  agents  is  that  frequently  such  corporations  are  obliged  to  under- 
take operations  of  such  magnitude  and  complexity  over  a  series  of 
years  that  they  must  invoke  uninterruptedly  the  best  financial  advice 
obtainable.  An  operation  like  that  of  the  Pennsylvania  and  Long 
Island  railroads  in  tunneling  respectively  the  Hudson  and  East 
rivers,  and  building  an  enormous  terminal  in  the  heart  of  New  York, 
involved  the  expenditure  of,  say,  $200,000,000,  and,  from  inception  to 
completion,  occupied  the  best  part  of  a  decade.  The  unwisdom  of 
embarking  upon  such  a  development  and  of  relying  through  good 
times  and  bad,  panic  periods  and  otherwise,  upon  the  sale  of  S200,- 
000,000  of  bonds  by  auction  to  the  public,  could  hardly  be  charac- 
terized, even  if  it  were  conceivable. 

As  the  final  point  of  this  memorandum  we  venture  to  submit  the 
consideration  that  in  a  strong  public  opinion,  such  as  exists  in  this 
country,  there  lies  the  greatest  safeguard  of  the  community.  The 
public,  that  is,  the  depositors,  are  the  ones  who  entrust  bankers  with 
such  influence  and  power  as  they  today  have  in  every  civilized  land, 
and  the  public  is  unlikely  to  entrust  that  power  to  weak  or  evil  hands. 
Your  counsel  asked  more  than  one  witness  whether  the  present  power 
held  by  bankers  in  this  country  would  not  be  a  menace  if  it  lay  in 
evil  hands.  Such  an  inquiry  answers  itself.  All  power — physical, 
intellectual,  financial,  or  political — is  dangerous  in  evil  hands.  If 
Congress  were  to  fall  into  evil  hands  the  results  might  be  deplorable. 
But  to  us  it  seems  as  little  likely  that  the  citizens  of  this  country  will 
fill  Congress  with  rascals  as  it  is  that  they  will  entrust  the  leadership 
of  their  business  and  financial  affairs  to  a  set  of  clever  rogues.  The 
only  genuine  power  which  an  individual,  or  a  group  of  individuals, 
can  gain  is  that  arising  from  the  confidence  reposed  in  him  or  them 
by  the  community.  Every  town,  large  or  small,  seems  to  choose  a 
limited  number  of  men  (merchants,  manufacturers,  lawyers,  and 
bankers)  to  represent  it  in  the  management  of  its  chief  local 
industries.  Those  men  are  entrusted  with  such  heavy  responsi- 
bilities because  of  the  confidence  which  their  records  have  estab- 
lished, and  only  so  long  as  their  records  are  unblemished  do  they 
retain  such  trusts. 

These  are  axioms  which  it  seems  almost  idle  to  repeat.  They 
apply  to  all  business,  but  more  emphatically,  we  believe,  to  banking 
than  to  any  other  form  of  commerce.  To  banking  the  confidence  of 
the  community  is  the  breath  from  which  it  draws  its  fife. 


484  PRINCIPLES  OF  MONEY  AND  BANKING 

234.     RESULTS  OF  THE  MONEY  TRUST  INVESTIGATION' 

The  Federal  Money  Trust  Committee  has  completed  its  work, 
and  its  report  will  now  be  received  by  Congress.  It  is  to  be  regretted 
that  the  committee  was  unable  to  arrive  at  anything  like  unanimity 
in  this  report,  and  it  is  questionable  if  it  will  be  of  any  value  in  formu- 
lating suitable  currency  legislation.  It  has  long  been  recognized  that 
Chairman  Pujo  and  his  gallant  band  were  compelled  to  be  but  spec- 
tators in  the  investigations,  while  their  attorney  formulated  the 
report  to  which  the  signatures  of  the  members  were  to  be  attached. 

Three  reports  in  all  were  submitted;  the  first  or  majority  report, 
in  which  the  discovery  of  a  modified  trust  is  reported,  is  signed  by 
all  the  Democratic  members  of  the  committee;  a  principal  minority 
report,  denying  the  existence  of  a  money  trust,  but  recognizing  a 
"dangerous  concentration  of  credit,"  is  signed  by  three  Republican 
members;  one  Republican  member  is  unable  to  agree  with  either 
report,  and  submits  an  individual  report,  in  which  he  pays  tribute  to 
the  New  York  financial  institutions. 

The  majority  report,  in  describing  its  view  of  present  financial 
conditions,  says  that  the  committee  "is  satisfied  from  proofs  submit- 
ted that  there  is  an  established  and  well-defined  identity  and  com- 
munity of  interest  between  a  few  leaders  of  finance,  created  and  held 
together  through  stock  ownership,  interlocking  directorates,  partner- 
ships and  joint  account  transactions,  and  other  forms  of  domination 
over  banks,  trust  companies,  raihoads,  and  public- service  and  indus- 
trial corporations  which  has  resulted  in  a  great  and  rapidly  growing 
concentration  of  the  control  of  money  and  credit  in  the  hands  of 
these  few  men. 

"If  by  the  term  'money  trust'  is  meant  a  combination  or  arrange- 
ment created  and  existing  pursuant  to  a  definite  agreement  between 
designated  persons  with  the  avowed  and  accomplished  object  of  con- 
centrating unto  themselves  the  control  of  money  and  credit,  we  are 
unable  to  say  that  the  existence  of  a  money  trust  has  been  established 
in  that  broad,  bald  sense  of  the  term,  although  the  committee  regrets 
to  find  that,  even  adopting  that  extreme  definition,  surprisingly  many 
of  the  elements  of  such  a  combination  exist." 

In  order  to  restore  a  condition  of  financial  equilibrium,  the  com- 
mittee has  drawn  up  two  legislative  measures,  which  it  asks  to  be 
enacted  into  law.  These  measures  are  designed  to  wipe  out  "inter- 
locking" directorates  and  stock  holdings  among  banks,  and  prevent 

'Adapted  from  an  editorial  in  the  Amerkan  Banker,  LXXVIII  (1913),  679. 


THE  INTERRELATIONS  OF  FINANCIAL  OPERATIONS         485 

the  consolidation  of  two  or  more  National  banks,  except  under 
the  approval  of  the  Comptroller  of  the  Currency.  Twenty-two 
new  regulations  in  all  are  to  be  added  to  the  restrictions  of  National 
banks,  including  the  prohibition  of  a  person  being  a  director  in 
more  than  one  National  bank,  the  holding  of  stock  of  one 
bank  by  another  bank,  the  prohibition  of  security  underwriting  by 
National  banks,  borrowing  by  a  National  bank  director  from  the 
bank  of  which  he  is  a  director,  except  with  certain  conditions,  and 
the  Umiting  of  the  number  of  directors  of  National  banks. 

It  also  provides  for  the  incorporation  of  all  clearing-houses,  which 
are  to  be  periodically  examined  by  public  authorities,  and  to  accept 
for  membership  "every  properly  managed  bank  or  trust  company." 

235.    PROHIBITION  OF  INTERLOCKING  DIRECTORATES  BY 
THE  CLAYTON  ACT' 

Section  8  of  the  Clayton  law,  passed  October  15,  1914,  provides 
that  no  person  shall  at  the  same  time  be  a  director  or  other  officer  or 
employee  of  more  than  one  bank,  banking  association,  or  trust  com- 
pany organized  or  operating  under  the  laws  of  the  United  States, 
either  of  which  has  deposits,  capital,  surplus,  and  undivided  profits 
aggregating  more  than  S5, 000,000;  and  no  private  banker  or  person 
who  is  a  director  in  any  bank  or  trust  company  organized  or  operating 
under  the  laws  of  a  state  having  deposits,  capital,  surplus,  and  undi- 
vided profits  aggregating  more  than  $5,000,000  shall  be  eligible  to 
be  a  director  in  any  bank  or  banking  association  organized  or  operating 
under  the  laws  of  the  United  States. 

The  law  further  provides  that  no  bank,  banking  association,  or 
trust  company  operating  under  the  laws  of  the  United  States  which 
is  located  in  a  city  of  more  than  200,000  population  shall  have  as  a 
director,  officer,  or  employee  any  private  banker,  or  any  director, 
officer,  or  employee  of  any  other  bank,  banking  association,  or  trust 
company  located  in  the  same  city. 

There  are  three  exceptions  to  the  prohibition  against  interlocking 
directorates,  besides  the  qualifications  respecting  the  size  of  institu- 
tions and  the  population  of  the  places  where  located.  These  are:  (i) 
the  prohibition  docs  not  apply  to  mutual  savings  banks  which  have 
no  capital  stock;    (2)  tlie  director,  officer,  or  employee  may  be  an 

•Adapted  from  "Clayton  Act  Makes  Many  Changes  in  National  Bank 
Directorates,"  Journal  of  American  Bankers'  Association,  \'III  (1916),  pp.  687-S8. 


486  PRINCIPLES  OF  MONEY  AND  BANKING 

officer  where  the  entire  capital  stock  of  one  is  owned  by  the  stock- 
holder in  the  other;  and  (3)  the  prohibition  does  not  apply  to  a  Class 
A  director  in  a  Federal  reserve  bank  who  serves  as  a  director,  officer, 
or  employee  in  a  member  bank. 

Although  the  Clayton  law  does  not  become  operative  until 
October  15,  stockholders  of  many  national  banks  took  action  designed 
to  comply  with  the  new  law  at  the  annual  meetings  held  on  January' 
II.  As  a  result  numerous  changes  were  made  in  the  boards  of  direc- 
tors, particularly  in  the  case  of  the  large  banks  located  in  New  York, 
Chicago,  Philadelphia,  and  Boston. 

Chief  among  the  changes  made  in  the  directorates  of  New  York 
national  banks  was  the  elimination  of  four  bank  presidents  from  the 
board  of  the  National  Bank  of  Commerce.  The  board  was  reduced 
from  twenty-five  to  twenty-one  members,  the  retiring  directors  being: 
Frank  A.  Vanderlip  of  the  National  City,  Albert  H.  Wiggin  of  the 
Chase  National,  Francis  L.  Hine  of  the  First  National,  and  William  A. 
Simonson  of  the  Second  National. 

Mr.  Vanderlip  also  announced  his  resignation  from  the  boards  of 
the  American  Security  and  Trust  Company  and  the  Riggs  National 
Bank  of  Washington  and  of  the  Farmers  Loan  and  Trust  Company 
of  New  York. 

A.  Barton  Hepburn,  chairman  of  the  board  of  the  Chase  National, 
resigned  from  the  board  of  the  First  National  and  from  the  board  of 
a  Newark  institution. 

The  most  radical  changes  which  the  Clayton  law  will  enforce  will 
be  in  the  case  of  the  Bankers  Trust  Company  of  New  York,  the 
directorate  of  which  consists  of  fourteen  national  bankers  out  of  a 
total  of  twenty-eight.  At  the  January  meeting  the  stockholders  took 
no  action,  and  it  was  announced  that  the  personnel  of  the  board 
would  be  readjusted  gradually  in  compliance  with  the  law  sometime 
before  October  15. 

The  full  effect  of  the  law  will,  of  course,  not  be  felt  until  October 
15,  when  it  becomes  operative,  but  bankers  who  have  given  the  mat- 
ter consideration  deplore  the  fact  that  their  institutions  \\ill  be 
forced  to  lose  the  services  of  some  of  their  very  best  and  most  expe- 
rienced directors.  This  is  true  of  the  small  banks  as  well  as  of  the 
large. 

The  injustice  of  the  law  is  commented  upon,  especially  in  cases 
where  a  banker  serves  on  the  boards  of  institutions  not  competing. 
There  are  many  instances  where  a  banker  is  a  director  of  a  trust 


THE  INTERRELATIONS  OF  FINANCUL  OPER.\TIONS        487 

company  and  a  national  bank,  their  business  being  essentially  different 
in  character.  Moreover,  there  are  numerous  cases  where  a  director 
serves  on  boards  of  banks  or  trust  companies  located  in  distant  cities, 
each  catering  to  a  community  of  its  own,  and  not  competing  with 
the  other  in  any  way. 

Attention  has  also  been  directed  to  the  fact  that  as  the  law  is 
worded  a  national  banker  in  New  York,  for  instance,  may  serA-e  on 
several  boards  of  out-of-town  state  banks,  while  he  is  prohibited  from 
being  a  director  of  any  other  national  institution.  This,  it  is  con- 
tended, is  an  unjust  discrimination  in  favor  of  state  banks,  for  the 
reason  that  they  will  be  in  a  position  to  obtain  the  services  of  high- 
grade  national  bankers,  while  their  competing  national  banks  are 
denied  the  opportunity  of  electing  these  men  to  their  boards. 

236.     THE  ECONOMIC  FUNCTIONS  OF  THE  FINANCIER  IN 
MODERN  INDUSTRY' 

By  JOHN  A.   HOBSON 

The  structure  of  modern  capitalism  tends  to  throw  an  ever- 
increasing  power  into  the  hands  of  the  men  who  operate  the  monetary 
machinery  of  industrial  communities,  the  financial  class.  For  large 
enterprises  the  financier  has  always  been  a  necessary  man:  in  the 
ancient  and  the  mediaeval  world  he  found  large  svuns  of  money  to 
meet  the  emergencies  of  kings  and  great  nobles,  ecclesiastical  or  civil, 
to  furnish  military  or  naval  expeditions,  and  to  facilitate  the  larger 
forms  of  commercial  enterprises  which  needed  capital.  Small  finan- 
ciers, as  usurers  or  money-lenders,  have  at  all  times  lived  upon  the 
irregularities  and  misfortunes  of  the  farming,  artisan,  and  small 
trading  classes.  But  not  until  the  development  of  modern  industrial 
methods  required  a  large,  free,  various  flow  of  capital  into  many 
channels  of  productive  employment  did  the  financier  show  signs  of 
assuming  the  seat  of  authority  he  now  occupies  in  our  economic 
system.  Every  important  step  in  the  growth  of  industrial  structure 
has  favored  the  segregation  of  a  financial  from  a  more  general 
capitalist  class,  and  has  given  it  a  larger  and  a  more  profitable  control 
over  the  course  of  industry. 

The  elaborate  differentiation  of  industrial  processes  into  separate 
businesses,  the  concatenation  of  a  long  series  of  different  businesses 
contributing  directly  to  the  production  of  each  class  of  commodities, 

'  Adapted  from  The  Evoltilion  of  Modern  Capilalism,  pp.  235-57.  (Walter 
Scott  Publishing  Co.,  Ltd.,  1898.) 


488  PRINCIPLES  OF  MONEY  AND  BANKING 

the  relation  of  each  member  of  this  series  to  dependent  or  subsidiary 
businesses,  each  of  which  is  itself  a  member  of  another  series  of 
separately  ordered  processes,  the  interdependence  of  the  most  widely 
divergent  manufacturing  or  commercial  processes  through  the  use  of 
some  common  source  of  mechanical  power,  or  some  instrument  of 
transport,  the  expansion  of  local  into  national  and  world  markets 
which  bring  what  were  formerly  separate  self-sufficing  industrial 
systems  into  unity — the  working  of  such  an  industrial  organization 
implies  a  delicate  and  intricate  mechanism  of  adjustments.  In 
order  that  such  a  system  may  work  properly  and  economically  there 
must  be  an  automatic  apparatus  for  the  application  of  economic 
stimuli  and  the  generation  of  productive  power  at  points  of  industrial 
deficiency,  and  a  corresponding  application  of  repressive  checks  at 
points  of  industrial  excess:  industrial  power  must  be  distributed  in 
some  general  form  throughout  the  entire  organism  to  be  transmuted 
into  special  kinds  of  productive  energy  where  there  is  need. 

This  growing  necessity  of  modern  industry  has  reacted  in  two 
important  ways  upon  the  economic  structure — first,  by  producing  a 
radical  change  in  the  structure  of  the  business  unit,  and,  secondly,  in 
giving  rise  to  "a  class  of  pecuniary  experts  whose  business  is  the 
strategic  management  of  the  interstitial  relations  of  the  system." 

The  quick  rise  of  new  manufacturing  and  commercial  business 
demanded  a  freer  movement  of  capital  than  the  older  business  could 
easily  procure;  old-established  private  businesses  sought  to  expand; 
men  with  keen  wits  capable  of  seizing  opportunities  rose  "from  the 
ranks"  and  needed  the  use  of  capital;  vast  new  forms  of  enterprise 
in  railroads,  mining,  etc.,  demanded  larger  capital  than  private  finance 
could  furnish.  Hence  the  need  of  a  reformation  of  business  structure 
upon  a  basis  of  co-operative  capital,  drawn  from  innumerable  private 
sources,  welded  into  large  masses  and  utilized  for  profitable  industry 
by  able  directors  of  large  business  enterprises.  The  widespread 
increase  of  wealth  from  new  industrial  methods  enabled  far  more 
people  than  before  to  efiect  private  savings;  the  economy  of  large- 
scale  production  precluded  them  from  setting  up  in  business  for 
themselves  upon  the  small  capital  they  thus  commanded,  while 
improved  methods  of  commercial  intelligence  greatly  widened  the 
area  of  secure  investment,  tending  more  and  more  to  separate  capital 
from  the  presence  and  direct  control  of  its  owners,  and  to  place  it  at 
the  disposal  of  big  business  men  who  paid  interest  to  its  owners  for 
its  use. 


THE  INTERRELATIONS  OF  FLNANCIAL  OPERATIONS        489 

Thus  il  has  come  to  pass  that  in  every  field  of  capitaHst  industry 
joint-stock  enterprise  has  been  rapidly  displacing  privately  owned 
businesses.  So  long  as  the  new  class  of  small  investors  had  only  the 
alternative  of  effecting  loans  or  mortgages  at  small  fixed  rates  of 
interest,  or  of  incurring  "unlimited  liability"  by  investment  which 
they  could  neither  watch  effectively  nor  easily  withdraw,  the  growth 
of  co-operative  capital  became  very  rapid  and  widespread.  The 
application  of  this  new  capitaUst  structure,  first  to  public  loans,  then 
to  railroad,  shipping,  mining,  and  banking  enterprises,  the  enormous 
expansion  of  public  or  "company"  development  in  the  supply  of 
municipal  services,  and,  finally,  the  extension  to  industrial  companies 
of  every  sort  and  size,  have  revolutionized  the  character  of  modern 
economics  and  politics.  Countless  thousands  of  citizens  in  America 
or  Great  Britain  are  part  owners  of  lands,  railroads,  minerals,  fac- 
tories, municipal  plants,  and  public  revenues  in  all  parts  of  the  civilized 
or  semicivilizcd  world.  Primarily,  this  signifies  a  divorcement  of 
political  from  economic  interests  for  large  sections  of  these  nations; 
politically  they  are  members  of  a  single  nation  with  an  area  of  influence 
and  interest  thus  circumscribed;  economically  they  are  to  an  ever- 
growing extent  cosmopolitans. 

The  modern  financier  may  be  regarded  as  the  product  of  the 
joint-stock  company,  or  corporate  form  of  industry,  which  is  now 
virtually  in  possession  of  the  entire  field  of  capitalism  in  the  mining, 
transport,  banking,  and  large  manufacturing  industries.  The  limits 
of  the  sound  and  useful  service  of  the  promoters  and  financiers  in 
constructing  and  in  floating  a  company  consist  in  a  just  calculation 
on  actuarial  and  other  bases  of  the  future  earning  capacity  of  the 
business,  its  capitalization  upon  these  bases,  and  the  distribution  of 
the  stocks  and  shares  and  their  marketing  in  forms  most  convenient 
to  the  investing  public,  who  are  informed  of  the  true  nature  of  the 
business  into  which  they  put  their  money.  An  agreed  and  recognized 
rate  of  commission  for  such  work  of  financial  construction  and  pro- 
motion, with  a  further  commission  for  underwriting,  paid  either  by 
the  vendors  or  by  the  company,  or  both,  would  be  the  gain  of  the 
promoter  and  financier  most  conformable  to  reasonable  business 
methods.  Placing  a  business  upon  a  basis  where  it  can  command  more 
working  capital  and  more  bank  credit  increases  its  competitive,  and 
in  some  instances  even  its  industrial,  efficiency,  and  is  entitled  to 
payment  for  this  service. 


490  PRINCIPLES  OF  MONEY  AND  BANKING 

But  the  actual  operation  of  the  promoter  and  financier  in  con- 
struction of  companies  and  the  nature  of  the  gains  which  accrue  to 
them  are  not  normally  confined  within  these  limits.  The  vendors, 
promoters,  and  underwriters  of  a  company  are  not  unnaturally  given 
to  calculating  in  the  first  place  how  much  they  individually  and 
collectively  can  get  out  of  the  business  enterprise,  or,  in  other  words, 
how  little  they  can  leave  to  the  ordinary  investing  public  whose 
capital  they  want  to  attract.  It  is  their  profit  and  not  the  interest 
upon  the  shares  of  investors  that  is  the  originating  motive  of  most 
companies,  as  we  have  seen. 

Now,  they  may  take  these  profits  in  three  different  ways.  By 
overvaluation  of  the  earning  capacities  of  the  various  plants  of 
amalgamating  businesses,  of  the  patents,  and  especially  of  the  good- 
will and  other  invisible  assets,  they  may  bloat  out  the  capital  value 
of  the  company  to  the  utmost,  distributing  among  themselves  in 
vendors'  and  promoters'  shares  and  in  other  payments  as  much  of 
the  more  vendible  stocks  as  they  can  conceal,  substituting  in  this 
capitaHzation  the  consideration  of  immediate  vendibility  for  future 
earning  capacity.  So  far  as  they  can  succeed  in  raising  the  immediate 
market  value  of  the  stocks  they  have  allotted  to  themselves  for 
services  or  obtained  by  the  ordinary  method  of  subscription,  it  will 
be  to  their  interest  to  unload  these  stocks  upon  the  market  before 
the  inflated  capitalization  of  the  market  is  effectively  exposed. 

The  motive  and  effect  of  these  financial  arts  are  to  create  a  false 
confidence  on  the  part  of  the  ordinary  capitalist  or  investing  public 
which  expresses  itself  in  a  temporary  boom  of  watered  stocks. 

This  of  course  does  not  exhaust  the  functions  of  the  promoter, 
especially  where  an  amalgamation  or  the  formation  of  a  "trust"  is 
the  object  of  the  company.  Here  there  is  much  scope  for  strategic 
work  of  a  preparatory  nature;  rival  interests  must  be  fused  upon 
terms  advantageous  to  the  trust-makers,  with  much  use  of  bluft", 
intrigue,  threats,  bribes,  and  actual  processes  of  "freezing  out." 
When  strong  businesses  "stand  out"  they  can  often  obtain  an  exor- 
bitant price  for  consenting  to  come  in,  and  this  exorbitance  is  a  large 
factor  in  the  overcapitalization  of  the  company. 

Most  financiers  or  money-dealers,  however,  are  not  chiefly  engaged 
in  promoting  companies,  but  in  getting  profits  from  handling  the 
stocks  and  shares  upon  the  market.  As  in  company  construction,  so 
here  the  business  rests  on  a  real  foundation  of  utility  or  productivity. 
This  utility  consists  in  using  skilled  foresight,  so  as  to  direct  the  flow 


THE  INTERRELATIONS  OF  FINANCLVL  OPER.\TIONS        491 

of  industrial  capital  into  the  most  serviceable  industrial  channels. 
For  the  rises  and  falls  of  stocks  and  shares,  so  far  as  they  are  naturally 
induced,  and  rest  upon  sound  business  information,  are  the  financial 
machinery  directing  the  creation  of  the  various  quantities  of  concrete 
capital  required  to  co-operate  with  labor  in  the  most  efficient  work- 
ing of  the  various  industries.  The  really  useful  skill  of  stockbrokers, 
billbrokers,  bankers,  and  other  financiers  who  handle  slocks  and 
shares,  buying  or  selling  them,  discounting  them  or  advancing  money 
on  their  security,  consists  in  intimate  knowledge  of  the  industrial  and 
commercial  facts  that  give  value  to  the  pieces  of  paper  which  they 
handle — in  other  words,  a  knowledge  of  the  relative  strength  and 
weakness  of  the  various  trades  and  of  the  particular  businesses  which 
operate  in  them.  It  is  their  function  to  stimulate  and  direct  the  flow 
of  credit,  and  through  credit  of  actual  industrial  power,  from  failing 
to  thriving  trades,  and  from  ill-ordered  and  unprofitable  to  well- 
ordered  and  profitable  businesses.  To  assist  in  putting  capital  where 
it  is  most  wanted  is  thus  the  social  function  of  these  orders  of  finan- 
ciers. The  performance  of  this  work  requires,  not  only  large  and 
accurate  knowledge  of  fact,  but  high  cjualities  of  combination  and  of 
constructive  imagination  in  interpreting  the  probable  course  of  future 
movements.  Dealing  in  the  most  mobile,  changeful,  and  divisible 
forms  of  vendible  goods,  the  money  market  is  of  all  markets  the 
most  complex  and  at  the  same  time  the  most  unified  in  its  structure, 
and  it  admits  of  a  high  order  of  specialization.  Groups  of  brokers  or 
financiers  attach  themselves  to  particular  classes  of  stocks,  the  classi- 
fication being  partly  local — e.g..  South  African  mines  or  American 
railroads. 

The  "legitimate"  business  of  this  finance  is  to  operate  the  ma- 
chinery for  the  distribution  of  capital  by  accurate  registration  and 
calculation  of  price  movements.  Since  the  limits  of  calculation 
are  often  very  narrow,  the  element  of  chance  or  speculation 
must  enter  in  as  a  necessary  ingredient  of  the  business  so  far  as 
any  individual  operation  is  concerned.  But  while  the  ignorance  of 
most  amateur  investors  converts  their  investments  into  mere  acts 
of  gambling,  the  professional  financier  is  not  properly  a  gambler. 
When  he  departs  from  "legitimate"  finance  it  is  not  primarily  to 
gamble  but  to  manipulate  prices,  so  as  to  assist  his  calculations. 
Instead  of  merely  predicting  price  changes  he  endeavors  to  produce 
them.  If  he  is  able  in  any  way  to  cause  and  to  regulate  fluctuations 
of  prices  in  any  class  of  securities,  he  can  buy  at  the  bottom  and  sell 


492  PKINCIPLKS  01'  MONEY  AND  BANKING 

at  the  top,  an  obviously  advantageous  methofl;  if  he  can  sit  for 
some  time  upon  a  class  of  stocks,  rocking  the  values  up  and  down  at 
will,  he  may  be  able  to  extract  from  the  ordinary  investing  public  a 
larger  quantity  of  money  than  could  be  got  by  any  single  coup  of 
company  promotion.  Any  group  of  financiers  furnished  with  large 
enough  resources  may  fasten  upon  a  stock,  using  it  either  to  milk  the 
innocent  investing  public  by  preconcerted  price  movements  which 
deceive  them  into  buying  and  selling  at  a  loss,  or  to  corner  the  stock 
and  squeeze  other  financiers  not  "in  the  know"  by  forcing  them  to 
buy  stock  at  monopoly  prices  in  order  to  fulfil  their  engagements. 
But  the  financiers,  who  are  themselves  promoters  or  directors  of  a 
company  and  have  retained  large  blocks  of  shares,  can  play  this 
profitable  game  at  a  great  advantage.  Instead  of  overcapitalizing  a 
company  at  construction  and  clearing  out  by  a  single  act  of  "unload- 
ing," they  may  retain  their  shares  and  use  them  for  what  is  euphemis- 
tically termed  "speculating"  on  the  bourse,  but  what  is  in  reality  an 
alternate  "rigging  and  depressing  of  prices."  Superior  or  early  access 
to  information  affecting  the  movement  of  prices  gives  them  their 
first  advantage;  this  they  may  supplement  by  manipulating  public 
opinion  through  the  press;  finally,  their  financial  position  and  control 
of  movements  enable  them  more  effectively  than  outsiders  to  bull 
•and  bear  the  market.  An  intrinsically  unsound  business,  with  incal- 
culable or  fluctuating  assets,  best  lends  itself  to  such  operations.  A 
classical  example  in  modern  finance  is  the  South  African  Chartered 
Company,  a  wildly  speculative  venture  of  such  magnitude  and  super- 
ficial possibilities,  so  well  adapted  to  political  and  sentimental  appeals, 
as  to  enable  its  crafty  organizers  to  plan  and  execute  price  movements 
of  enormous  range.  The  advantage  enjoyed  by  financiers  "in  the 
know"  are  well  illustrated  by  the  record  of  the  holding  of  Chartered 
Shares  before  and  after  the  Jameson  Raid  by  Messrs.  Rhodes,  Beit, 
Rudd,  and  their  intimates  in  South  African  finance. 

These  operations  of  financiers  in  managing  the  play  of  mobile 
stocks  resembles  the  keeping  of  gaming  tables;  from  their  standpoint 
it  is  business;  from  that  of  their  clients  it  is  gambling;  under  normal 
circumstances  and  in  the  long  run  there  is  Uttle  risk  for  them — they 
must  win;  the  amateurs  who  play  with  them  must  lose. 

The  skilled  financier,  who  makes  large  gains  by  "speculative" 
business  in  floating  companies  and  planning  coups  upon  the  Stock 
Exchange,  desires,  if  he  retains  any  "conservative  instinct,"  to  pos- 


THE  INTERRELATIONS  OF  I-INANCIAL  OPERATIONS        493 

sess  some  substantial,  profitable  stake  in  the  world  of  finance,  some 
considerable  investment  in  real  estate  or  in  regularly  remunerative 
businesses:  such  holding  substantiates  his  credit,  gives  him  social 
position  and  respectability,  and  so  assists  his  speculative  opera- 
tions, besides  furnishing  a  soft  bed  on  which  to  fall  in  the  event 
of  some  knockdown  blow.  The  master  of  modern  finance  does  not 
therefore  use  all  his  resources  in  speculative  business,  nor  does  he 
find  it  to  his  interest  to  impart  mobility  to  every  form  of  investment. 
In  his  career  he  enjoys  exceptional  opportunities  of  making  or  dis- 
covering genuinely  profitable  investment  based  upon  the  control  of 
rich  natural  resources  or  other  protective  support.  The  directors  of 
the  Standard  Oil  Trust  or  of  the  East  Rand  Mines  or  De  Beers  do  not 
"gamble"  with  such  stocks,  nor  do  they  let  out  of  their  hands  at  any 
time  the  control  of  these  profitable  businesses:  they  only  speculate 
with  the  suqjlus  gains  which  spring  from  such  "monopolies"  and 
with  the  cumulative  profits  of  their  well-directed  speculations. 

The  financial  class,  then,  as  distinguished  from  the  main  body 
of  capitalists  or  amateur  investors,  grafts  upon  its  legitimate  and 
useful  function  of  determining  and  directing  the  most  productive 
flow  of  capital  three  methods  of  private  gain,  each  of  which  is  a 
corruption  and  abuse  of  its  true  function. 

Planning  and  promoting  companies  based,  not  upon  economy  of 
industrial  or  financial  working,  but  upon  an  artfully  enhanced  vendi- 
bility of  shares,  they  cause  a  waste  of  general  capital  by  obtaining 
an  excessive  subscription  to  the  company  and  diverting  the  excess 
into  their  own  pockets,  thus  imparting  insecurity  to  otherwise  sound 
businesses,  damaging  their  credit,  and  impeding  their  productive 
operations.  To  this  waste  must,  of  course,  be  added  the  injury 
wrought  by  floating  "bogus"  companies  which  have  no  actual 
foundation  in  the  business  world;  the  wise  prevalence  of  these  crim- 
inal adventures  not  only  wastes  capital,  but,  disturbing  public  con- 
fidence, further  impedes  the  easy,  natural  flow  of  capital  throughout 
the  industrial  organism. 

Creating  or  stimulating  fluctuations  of  prices  in  order  to  contrive 
corners  or  to  practice  concerted  coups  is  an  even  more  injurious 
dislocation  of  the  social  machinery  of  finance;  it  is  a  falsification  of 
the  automatic  register  of  values  expressly  designed  to  determine  the 
most  productive  application  of  capital. 

Finally,  the  creation,  absorption,  and  supreme  control  of  the  most 
profitable  forms  of  natural  monopoly  and  other  abnormally  pros- 


494  PRINCIPLES  OF  MONEY  AND  BANKING 

perous  businesses  impart  a  strength  and  solidity  to  the  new  financial 
oUgarchy  which  enables  it  to  fasten  its  hold  still  more  firmly  on  the 
necks  of  the  proletariat  of  capital,  who  thus,  cut  off  more  and  more 
from  secure  investments,  are  driven  into  the  "gambling  hells"  of 
speculative  stocks  and  shares  kept  by  these  masters  of  finance. 

The  multitude  and  magnitude  of  these  interferences  with  the 
delicate  adjustments  of  the  financial  machinery  directing  the  flow  of 
capital  involve  other  indirect  consequences  of  importance.  They 
impart  debility  and  irregularity  to  the  actual  processes  of  production 
and  of  commerce  under  the  new  order  of  capitalism.  The  business 
of  a  company  whose  stock,  overappreciated  upon  construction,  is 
allowed  afterward  to  slide,  or  is  made  tlie  sport  of  gamblers  who 
toss  it  up  and  down  for  private  financial  purposes,  is  rendered  insecure: 
the  actual  flow  of  capital  into  it,  plundered  at  the  source,  is  insufl&cient 
for  its  full  expansion;  attempts  to  "support  the  market,"  by  earning 
good  profits  through  economy  of  "costs"  or  other  unsound  business 
finance  drive  the  company  into  difl&culties,  force  it  to  call  up  more  of 
its  capital,  weakening  its  general  credit,  while  special  emergencies 
impel  it  to  seek  advances  from  bankers  and  other  accommodations. 

As  "credit"  becomes  more  and  more  the  vital  force  of  modern 
business,  the  class  that  controls  credit  becomes  more  powerful  and 
takes  for  itself  as  "earnings"  a  larger  proportion  of  the  product  of 
industry.  If,  however,  "credit"  were  left  to  the  free  competition  of 
a  large  number  of  bankers  and  financiers,  this  control  w^ould  not 
imply  mastery.  In  order  to  comprehend  the  power  of  finance  we 
must  look  a  little  closer  at  its  structure.  In  no  other  business  opera- 
tion is  the  advantage  of  a  large  over  a  small  capital  so  obvious:  no- 
where else  is  the  force  making  for  concentration  of  business  so  evident. 
If  any  limit  exists  to  the  "law  of  increasing  returns"  in  banking, 
insurance,  and  finance  it  is  not  easily  discernible.  Great  operations 
of  public  or  private  finance,  the  floating  of  public  loans  or  great 
industrial  combinations,  the  contrivance  and  executions  of  great 
movements  in  the  stock  and  share  markets,  can  only  be  conducted 
with  the  suddenness  and  secrecy  which  are  requisite  to  safety  and 
success  by  financial  businesses  of  the  first  order  of  magnitude.  Great 
businesses  alone  can  stand  their  ground  against  the  larger  shocks  to 
the  general  credit  of  a  nation,  or  can  rely  upon  their  political  influence 
to  secure  governmental  aid  in  cases  of  real  emergency.  Thus  it  arises 
that  a  large  proportion  of  the  most  profitable  business  of  financiers  is 


THE  INTERRELATIONS  OF  FLNANCIAL  OPERATIONS        495 

never  exposed  to  effective  competition,  and  the  prices  they  receive 
for  their  services  are  "monopoly"  prices:  either  it  is  business  which 
they  initiate  and  organize,  and  for  which  they  charge  "what  the  busi- 
ness will  bear,"  or  it  is  business  whose  size  and  delicacy  forbid  close 
bargaining,  or,  finally,  it  is  money-lending,  in  which  advantage  can  be 
taken  of  the  urgent  needs  of  the  applicant  for  loans. 

A  study  of  the  origins  and  careers  of  the  great  American  financiers 
discloses  three  chief  sources  of  financial  power:  railroads,  industrial 
trusts,  and  banking,  and  the  union  in  the  same  hands  of  the  control  of 
these  three  economic  functions  is  an  instructive  testimony  to  the 
nature  of  the  new  power.  The  railroad  kings  and  the  great  industrial 
trust-makers  are  drawn  by  economic  necessities  into  general  finance. 
The  control  exercised  by  American  railroads  over  agriculture,  irri- 
gation, mining,  city  development,  has  led  railroad  men  into  the  pro- 
motion of  all  sorts  of  business  enterprises  more  or  less  dependent 
upon  railroads,  while  the  tortuous  financial  history  of  most  roads 
has  necessitated  a  constant  recourse  to  the  general  machinery  of 
finance.  Though  the  same  is  not  equally  true  of  the  man  who  makes 
his  pile  by  the  successful  operation  of  an  industrial  trust,  another 
economic  necessity  drives  him  into  general  finance.  The  profitable 
management  of  a  trust  depends  primarily  upon  regulation  of  capital. 
It  is  thus  impossible  ex  hypothesi  for  a  trust-maker  to  find  full,  con- 
tinuous employment  for  the  high  profits  he  makes  by  extending  the 
plant  and  working  capital  of  his  own  business:  such  a  policy  would 
be  evidently  suicidal.  He  must  look  outside  his  own  business  for 
fields  of  profitable  investments  for  his  profits.  If  he  occupies  himself, 
as  sometimes  he  does,  in  organizing  other  industrial  trusts  in  busi- 
nesses related  to  his  own,  his  success  yields  new  profits  which  must 
seek  employment  further  afield.  Thus  the  profits  arising  from  specific 
monopolies  in  the  transport  or  the  manufacturing  world  arc  logically 
forced  into  the  more  general  regions  of  finance.  They  form  a  large 
and  growing  fund  of  free  capital  which  naturally  associates  itself  with 
the  free  funds  held  by  bankers,  and  operates  by  the  ways  we  have 
described  in  fastening  a  general  control  of  finance  upon  business  that 
enables  the  financial  class  to  extract  a  larger  share  of  the  general 
wealth. 


INDEXES 


INDEX  TO  PART  I 

[Explanalion  of  references  in  Index:  Each  part  of  the  book  is  diWded  into 
chapters,  designated  by  Roman  numerals;  into  sections  under  each  chapter,  desig- 
nated by  capital  letters;  and  into  selections  numbered  consecutiv-ely  throughout 
each  part  of  the  book.  Thus,  a  reference  in  the  index  as  follows:  "Contents, 
chap,  iv,  D,"  means  that  by  turning  to  the  contents  the  reader  will  find  in  the 
chapter  and  section  mentioned  various  selections  on  the  topic  in  question.  Refer- 
ence to  "Xo.  135"  means  that  the  topic  is  treated  in  selection  No.  135.  Reference 
to  "p.  238  "  means  that  the  topic  is  mentioned  on  that  page.] 


Assignats  and  mandats,  No.  90. 

Banking  s>-ndicate.     See  S>'Tidicate. 
Barter,  inconvenience  of,  No.  i. 
Bimetallism,   Contents,   chap,   iv,   pp. 

99,  221,  359;  international.  Contents, 

chap,  iv,  D. 
Bland-Allison  act,  Nos.  124,  129. 

Coinage:  principles  of.  Contents,  chap. 

ii,  D;  United  States,  Nos.  48,  49. 
Coins:  abrasion  of,  p.  84;  gold,  pp.  277, 

279;  foreign,  p.  281;  minor,  pp.  277, 

279;    silver,  p.  278;    subsidiary,  pp. 

277,  279,  281;  token,  Nos.  79,  104. 
Compensated  dollar,  Nos.  149,  150. 
Compensatory  action,  p.  98,  No.  68. 
Counterfeiting,  p.  84. 
Creditors,  viewpoint  of.  No.  1 28. 
Crime  of  1873,  Nos.  120-122. 
Currency:     debasement   of.    Contents, 

chap,  iv;    colonial,  Nos.  39,  91,  92; 

confederate,  Nos.  98,  99;  continental, 

Nos.  93-97. 
Cyanide  process,  pp.  72,  255. 

Debtors,  viewpoint  of.  No.    127,  pp. 

211,  225. 
Deferred  payments,  standard  of,  Nos. 

7,  26,  pp.  97,  loi,  258,  259. 
Dollar.     See       Compensated       dollar; 

Trade  dollar. 

Endless  chain,  pp.  237-38,  251. 
Exchange,  medium  of.     Sec  Medium  of 
exchange. 

"Financial  Disease,"  No.  134. 

Gold:  certificates,  pp.  278,  280;  cross 
of,  No.  137;  production  of.  No.  142. 
Sec  also  Coins;  Metals. 

Greenbacks,  Nos.  100-103,  Contents, 
chap.  V,  C,  Nos.  131, 139,  pp.  137, 138, 
210,  237,  238,  276,  278,  280. 


Gresham's  Law,  p.  98;  and  bimetallism, 
No.  66;  and  debasements,  No.  59; 
qualified,  No.  67. 

Index  numbers,  pp.  100,  270,  Nos.  144- 
46. 

Latin  Monetary  Union,  p.  98,  No.  82. 
Legal  tender  of  United  States  money. 

Sec  Money. 
Limping  standard,  p.  99. 

Mandats.    See  Assignats. 

Measure  of  value,  p.  7. 

Medium  of  exchange:  functions  of ,  No. 
4;   origin  of,  Nos.  34,  35. 

Mercantilism,  Contents,  chap,  i,  B  (2). 

Metals:  precious.  Contents,  chap,  ii,  C; 
production  of.  No.  44,  p.  212;  ratio 
of,  p.  114,  Nos.  64,  65.  See  also 
Gold;  Silver. 

Mint,  United  States,  Nos.  48,  49,  73; 
tolerance  of,  p.  83. 

Monetary  chronology.  No.  42. 

Monetary  functions,  p.  3;  differen- 
tiation of.  No.  8. 

Monetary  stock.  United  States,  No.  1 54. 

Money:  and  business  organization,  Nos. 
28,  29;  and  capital,  p.  3,  Nos.  23,  27; 
and  prices.  No.  6,  pp.  96,  254,  255, 
Contents,  chap,  vii;  and  regulation 
of  trade,  Contents,  chap,  i,  B  (2); 
and  wealth,  p.  4,  N'o.  20;  definition 
of.  No.  2;  government  paper.  Con- 
tents, chap,  v;  laws  of,  token,  No. 
79;  love  of,  Contents,  chap.  i.  B  (i); 
legal  tender  of  United  States,  No. 
153;  origin  and  development  of.  Con- 
tents, chap,  ii;  primitive.  Contents, 
chap,  ii,  A,  B;  redemption  of  United 
States,  No.  152;  representative,  Nos. 
85,  152;  requisites  of,  No.  36;  r6lc 
of,  p.  4,  Contents,  chap,  i,  C;  suj)- 
ply  of,  required,  No.  25;  value  of, 
No.  61.  Sec  also  Paper  money; 
Token   monev. 


499 


Soo 


PRINCIPLES  OF  MONEY  AND  BANKING 


Monometallism,  p.  qg. 
Multiple  standard,  pp.  loo,  259,  Nos. 
143,  147,  148. 

Panic  of  1893,  Nos.  133,  134. 

Paper  money,  Contents,  chap,  v;    by 

denominations.  No.  155. 
Pecuniary  organization,  p.  4,  Contents, 

chap.  i. 
Price:   as  organizing  force,  p.  4,   Nos. 

30,  31;   levels,  control  of,  Contents, 

chap.  vii. 
Prices  and   money.    See  Money   and 

prices. 

Redemption  of  United  States  Money. 

See  Money. 
Representative  money:    origin  of.  No. 

85;   redemption  of,  No.  152. 
Resumption  of  specie  payments,  Nos. 

108,  109. 

Seignorage,  No.  55. 

Sherman  act.  No.  129. 

Silver:  coin,  p.  276;  certificates, pp.  228, 

278,   280;    movement  of.   Contents, 

chap.  vi.    See  also  Metals. 


Standard:  double,  p.  49;  gold  exchange, 
p.  99;  irredeemable  paper,  p.  100; 
limping,  p.  89;  of  deferred  payments, 
Nos.  7,  26,  pp.  97,  loi,  258,  259; 
parallel,  p.  99;  single,  p.  99.  See  also 
Deferred  payments;  Midtiple  stand- 
ard. 

Standard  question.  Contents,  chaps,  iv, 
v,  vi,  vii,  pp.  96,  134,  210,  258, 
No.  80. 

Syndicate,  banking.  No.  135,  p.  238. 

Tabular  standard.  See  Multiple  stand- 
ard. 

Token  money,  laws  of.  No.  79;  private 
issue  of.  No.  104. 

Trade  dollar,  No.  123. 

Treasury  notes.  No.  125,  pp.  237,  238; 
redemption  of,  No.  131,  p.  280;  re- 
tirement of.  No.  140,  p.  278. 

United  States  notes.     See  Greenbacks. 

Value,  measure  of.  See  Measure  of 
value. 


INDEX  TO  PART  II 


Acceptance:  bank,  p.  55,  Nos.  152,  153; 

domestic,  No.  154;  trade,  p.  34,  Nos. 

229,  230. 
Agricultural  credit.  Contents,  chap.  ix. 
Aldrich  bill,  p.  261. 
Aldrich-Vreeland  act,  p.  260. 
Amortization    principle,    p.    390,    No. 

193- 
Asset    currency,    Contents,    chap,   vi, 
D  (3). 

Bank:  competition,  Nos.  58,  81,  pp. 
94-95,  197;  failures,  causes  of.  No. 
109,  p.  224. 

— notes;  circulation  of,  p.  126;  nature 
of,  p.  54,  Nos.  21,  22;  redemption  of, 
Nos.  92,  124;  regulation  of.  Contents, 
chap,  vi,  D;  under  Federal  Reserve 
system,  Nos.  142-43. 

— private,  pp.  7,  197,  Nos.  98,  99. 

— relations  between.  Contents,  chap.  v. 

— safety  fund.  No.  122. 

— statements,  Nos.  19,  20,  24,  158. 

— wildcat,  p.  241.  Sec  also  Acceptance; 
Goldsmith  bankers;  Loans;  Postal 
savings  banks:  Savings  banks;  State 
banks;  SufTolk  bank  systems;  Treas- 
ury and  the  banks. 

Banking:  forms  and  service  of,  Con- 
tents, chap,  i;  functions  of,  Nos.  21, 
22. 

— operations  and  accounts  of,  chap, 
iv.  A;   interrelations  of,  chap.  xi. 

— regulation  of,  Contents,  chap.  vi. 
Sec  also  Canadian  banking;  Com- 
mercial banking;  Co-operative  bank- 
ing agencies;  Free  banking  system; 
Investment  banking;  National  bank- 
ing system. 

Bill  of  exchange,  p.  34;  documentar>-, 
p.  72. 

Bond  houses.  Contents,  chap,  x,  B, 
chap,  xi,  C. 

Building  and  loan  associations.  Con- 
tents, chap,  viii,  C. 

Call  loans.     Sec  Loans. 

Canadian  banking:  rcdem[)ti()n  of 
notes,  p.  250. 

Checks:  cashier's,  pp.  34,  35;  certified, 
p.  55;  personal,  p.  35;  use  of  in 
United  States,  No.  16.  Sec  also 
Clearing-houses;   Collections. 


Clearing-houses,  pp.  95,  100,  loi.  Con- 
tents, chap,  v,  .^  (2),  Nos.  94,95, 159. 

Collateral.     See  Loans. 

Collections,  Nos.  52,  53;  under  Federal 
Reserve  system.  No.  161. 

Commercial  banking:  principles  of, 
Contents,  chap,  v;  under  Federal 
Reserve  system.  Contents,  chap, 
xi,  B;  versus  investment  banking, 
No.  I,  Contents,  chap,  xi,  A. 

Commercial  paper.     See  Loans. 

Commerical-paper  houses.  No.  35. 

Comptroller  of  currency,  powers  of, 
p.  203. 

Concentration,  fmancial.  See  Finan- 
cial concentration. 

Co-operative  banking  agencies,  Con- 
tents, chap.  viii. 

Correspondent  banks,  No.  54. 

Credit:  commercial,  p.  20,  Nos.  10,  12; 
department,  No.  ^^i  elasticity  of, 
Nos.  91,  144,  147,  151;  instruments 
of.  Contents,  chap,  iii;  nature  and 
functions  of.  Contents,  chap,  ii; 
unions.  No.  173.  See  also  Agri- 
cultural credit. 

Credit  Foncier,  p.  389. 

Crises.     See  Cyclical  variations. 

Currency  princi|)le,  No.  118. 

Cyclical  variations.  Contents,  chap. 
V,  B  (2),  C. 

Deposits:  interest  on,  Nos.  58,  65,  87, 
93;  nature  of,  p.  55,  Nos.  21,  22, 
pp.  126,  127;  time.  No.  157. 

Directorates.  See  Interlocking  directo- 
rates. 

Discount:  nature  of,  p.  55;  Nos.  21, 
22;  market.  No.  151;  rates,  Nos. 
148,  149. 

Draft,  trade.    See  Acceptance. 

Elastic  currency.  See  Bank  notes; 
Seasonal  variations. 

Exchange:  domestic,  No.  63,  pp.  317, 
318;  foreign.  No.  155;  rates  of,  in 
Chicago,  No.  154.  See  also  liill  of 
exchange;   Medium  of  exchange. 

Federal  Reserve  banks,  p.  207;  capital 

of,  p.  207. 
Federal    Reserve    Board,    powers    of, 

pp.  203-204. 


SOI 


502 


PRINCIPLES  OF  MONEY  AND  BANKING 


Federal  Reserve  system,  Contents, 
chap,  vii;  and  greenbacks.  No.  146; 
and  investment  operations.  Contents, 
chap,  xi,  B;  control  of,  Nos.  101-2; 
reserve  requirements  of,  p.  208. 

Financial  concentration,  Nos.  55,  56, 
57,  Contents,  chap,  xi,  C. 

Financial  operations,  interrelations  of, 
Contents,  chap.  xi. 

Financial  statement.  No.  34. 

Free  banking  system,  Nos.  97,  121. 

Gold  clearance  fund.  No.  160. 
Goldsmith  bankers.  No.  4. 
Government  loans  to  farmers.  No.  184. 

Hoarding,  in  1893,  No.  84. 

Independent  treasury.  See  Treasury 
and  the  banks. 

Instruments,  negotiable,  Nos.  17, 18. 

Interest  on  deposits.     See  deposits. 

Interest  rates:  in  New  York,  No.  41; 
on  consumption  loans,  p.  338;  to 
farmers,  p.  363,  Nos.  180,  186,  187. 

Interlocking  directorates,  p.  472,  Nos. 

232-35- 
Investment  banking,  No.  i.  Contents, 
chaps.  X,  xi,  C;   credit,  p.  20,  No.  9; 
loans  of  commerical  banks.  No.  32, 
Contents,  chap,  xi,  A,  B. 

Landschaften,  p.  389. 

Loan  sharks,  Nos.  169-71. 

Loans:  analysis  of,  Contents,  chap,  iv, 
B,  p.  51;  call,  p.  100,  No.  38;  col- 
lateral, Nos.  36-40;  between  banks, 
Contents,'  chap  v;  commercial-paper, 
Nos.  29-32,  227,  228;  commer- 
cial V.  investment,  No.  32;  govern- 
ment, to  farmers.  No.  184;  real-estate, 
p.  211,  Nos.  107,  108;  restrictions  on, 
No.  106. 

Louisiana  bank  act,  p.  245. 

Money  trust,  pp.  4,  441,  Nos.  231,  235. 
Morris  plan.  No.  172. 

National    banking    system,    No.    125, 

P-  259- 
Negotiable  instruments,  Nos.  17,  18. 


Note:  promissory,  p.  32;  broker.  No. 
35- 

Open-market  operations.  No.  156. 

Panics.     See  Cyclical  variations. 
Postal  savings  banks,  Nos.  207-209. 
Private  bank.     Sec  Bank. 

Raiffeisen  system,  p.  348. 

Rediscounting:  under  national  bank- 
ing system,  Nos.  59,  60;  under 
Federal  Reserve  system,  Nos.   147, 

150,  151- 

Reserve,  concentration  of:  during 
panics.  No.  89;  function  of.  No.  25; 
interdependence  of,  Nos.  44,  81;  of 
New  York  banks,  No.  42;  regulation 
of,  No.  105.  See  also  Financial  con- 
centration. 

Reserve  requirements.  No.  104,  p.  208. 

Rural  credit.     See  Agricultural  credit. 

Savings  banks,  chap,  x,  A. 

Savings  in  national  banks,  Nos.   157, 

203. 
Schulze-Delitzsch,  p.  348. 
Seasonal  variations,  Contents,  chap,  v, 

B  2  (a),  Nos.  75,  145. 
Speculation.     See  Stock-exchange  spec- 
ulation. 
State  banks,  p.  6;    loans  of.  No.  28; 

regulation  of.  Contents,  chap,  vi,  C; 

and   Federal   Reserve   system,   Nos. 

162-65. 
Stock-exchange   speculation,   Nos.    39, 

55,  58,  6s,  79,  81,  216,  p.  457,  Nos. 

225,  226. 
Suffolk  bank  system,  pp.  251-52. 
Trade  draft.     See  Acceptance. 

Treasury  and  the  banks,  Nos.  69-71, 

90,  145- 
Trust   companies,    Nos.   43,  112,  116; 
and    Federal    Reserve    system,    No. 
166. 

Usury,  p.  338. 

Vreeland-Aldrich  act,  p.  260. 


"I  mill 

^^    001  023  768    3 


CENTRAL  UNIVERSITY  LIBRARY 
University  of  California,  San  Diego 

DATE  DUE 

my  10  1979 

May  2  0  iqyq 


CI  39 


UCSD  Libr. 


